BP Annual Report 2008 | Quarterlytics

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beyond petroleum® Annual Report and Accounts 2008 bp.com/annualreport What’s inside? 2 Chairman’s letter 89 A dditional information for shareholders 90 Share ownership 91 Major shareholders and related party transactions 92 Dividends 92 Legal proceedings 93 The offer and listing 95 Memorandum and Articles of Association 96 Exchange controls 96 98 Documents on display 99 Purchases of equity securities by the issuer and Taxation affiliated purchasers 100 Called-up share capital 100 Annual general meeting 100 Administration 101 Financial statements 102 Consolidated financial statements of the BP group 108 Notes on financial statements 180 Additional information for US reporting 182 Supplementary information on oil and natural gas 191 Parent company financial statements of BP p.l.c. 4 Group chief executive’s review 6 Our performance 9 Performance review Information on the company Forward-looking statements 10 Selected financial and operating information 12 Risk factors 14 14 Statements regarding competitive position 15 17 Exploration and Production 31 Refining and Marketing 37 Other businesses and corporate 40 Research and technology 41 Regulation of the group’s business 41 Safety 43 Environment 48 Employees 49 Social and community issues 49 Essential contracts 49 Property, plants and equipment 49 Organizational structure 50 Financial and operating performance 58 Liquidity and capital resources 61 Critical accounting policies 65 Board performance and biographies 66 Directors and senior management 69 BP board performance report 77 Directors’ remuneration report 78 Part 1 Summary 80 Part 2 Executive directors’ remuneration 86 Part 3 Non-executive directors’ remuneration BP Annual Report and Accounts 2008 Information about this report This document constitutes the Annual Report and Accounts of BP p.l.c. for the year ended 31 December 2008 in accordance with UK requirements and is dated 24 February 2009. This document also contains information that will be included in the company’s Annual Report on Form 20-F 2008 in accordance with the requirements of the US Securities and Exchange Commission (SEC). Such information will be supplemented and may be updated at the time of filing that document with the SEC, or later amended, if necessary. The Annual Report and Accounts for the year ended 31 December 2008 contains the Directors’ Report, including the Business Review and Management Report, on pages 2-76 and 89-100, 102 and 191. The Directors’ Remun eration Report is on pages 77-87. The consolidated financial statements are on pages 101-190. The report of the auditor is on page 103 for the group and page 192 for the company. BP Annual Report and Accounts 2008 and BP Annual Review 2008 may be downloaded from www.bp.com/annualreport. No material on the BP website, other than the items identified as BP Annual Report and Accounts 2008 and BP Annual Review 2008, forms any part of those documents. Reconciliation of profit for the year to replacement cost profit For the year ended 31 December Profit before interest and taxation from continuing operations Finance costs and net finance income relating to pensions and other post-retirement benefits Taxation Minority interest Profit for the year from continuing operations attributable to BP shareholders Profit (loss) for the year from Innovene operations Inventory holding (gains) losses, net of tax Replacement cost profita b Replacement cost profit from continuing operations attributable to BP shareholders Replacement cost profit (loss) from Innovene operations Replacement cost profit Exploration and Production Refining and Marketing Other businesses and corporate Consolidation adjustments – Unrealized profit in inventory Replacement cost profit before interest and taxation Finance costs and net finance income relating to pensions and other post-retirement benefits Taxation on a replacement cost basis Minority interest Replacement cost profit from continuing operations attributable to BP shareholders Per ordinary share – cents Profit for the year attributable to BP shareholders Replacement cost profit Dividends paid per ordinary share – cents – pence Dividends paid per American depositary share (ADS) – dollars 2008 35,239 (956) (12,617) (509) 21,157 – 4,436 25,593 25,593 – 25,593 38,308 4,176 (1,223) 466 41,727 (956) (14,669) (509) 25,593 112.59 136.20 55.05 29.387 3.303 2007 32,352 (741) (10,442) (324) 20,845 – (2,475) 18,370 18,370 – 18,370 27,602 2,621 (1,209) (220) 28,794 (741) (9,359) (324) 18,370 108.76 95.85 42.30 20.995 2.538 $ million 2006 35,158 (516) (12,331) (286) 22,025 (25) 222 22,222 22,247 (25) 22,222 31,026 5,161 (841) 65 35,411 (516) (12,362) (286) 22,247 109.84 110.95 38.40 21.104 2.304 aReplacement cost profit reflects the replacement cost of supplies. The replacement cost profit for the year is arrived at by excluding from profit inventory holding gains and losses and their associated tax effect. Inventory holding gains and losses, for this purpose, are calculated for all inventories except for those that are held as part of a trading position and certain other temporary inventory positions. BP uses this measure to assist investors in assessing BP’s performance from period to period. Replacement cost profit is not a recognized GAAP measure. b Effective 1 January 2008, replacement cost profit for the year is determined by excluding from profit inventory holding gains and losses as well as their associated tax effect. Previously, replacement cost profit excluded inventory holding gains and losses while the tax charge remained unadjusted and included the tax effect on inventory holding gains and losses. Comparative amounts have been amended to the new basis and the impact of the change is shown in the table below. There is no impact on profit for the year. For the year ended 31 December Replacement cost profit – as previously reported – tax effect on inventory holding gains and losses – as amended 2007 17,287 1,083 18,370 $ million 2006 22,253 (31) 22,222 Comparative information presented in the ’Reconciliation of profit for the year to replacement cost profit’ table above has been restated, where appropriate, to reflect the resegmentation, following transfers of businesses between segments, that was effective from 1 January 2008. See page 16 for more details. On pages 2-7, references within BP Annual Report and Accounts 2008 to ‘profits’, ‘results’ and ‘return on average capital employed’ are to those measures on a replacement cost basis unless otherwise indicated. BP p.l.c. is the parent company of the BP group of companies. Unless otherwise stated, the text does not distinguish between the activities and operations of the parent company and those of its subsidiaries. The term ‘shareholder’ in this Annual Report and Accounts means, unless the context otherwise requires, investors in the equity capital of BP p.l.c., both direct and/or indirect. As BP shares, in the form of ADSs, are listed on the New York Stock Exchange (NYSE), an Annual Report on Form 20-F will be filed with the SEC in accordance with the US Securities Exchange Act of 1934. When filed, copies may be obtained, free of charge (see page 98). Cautionary statement BP Annual Report and Accounts 2008 contains certain forward-looking statements within the meaning of the US Private Securities Litigation Reform Act of 1995 with respect to the financial condition, results of operations and businesses of BP and certain of the plans and objectives of BP with respect to these items. For more details, please see forward-looking statements on page 14. The registered office of BP p.l.c. is 1 St James’s Square, London SW1Y 4PD, UK. Tel +44 (0)20 7496 4000. Registered in England and Wales No. 102498. Stock exchange symbol ‘BP’. 1 2008 was a year we will all remember. There are few precedents in history for such a rapid and dramatic change in the business environment. In the space of a few months we went from a record oil price of more than $140 per barrel, and BP reporting two consecutive quarters of record proﬁ ts for the group, to a recession in most of our major markets. Despite this changing environment, I am glad to say that BP is in an enviably strong position in terms of its balance sheet, its assets and its people. That strength is in no small part due to the period of critical self-examination the group has undergone since 2005. The resulting strategy, devised by Tony Hayward and his team and endorsed by the board, is already bearing fruit and has put us in a much better position to weather the savage economic storms we now face. The price of oil ended the year at its lowest level for more than four years. That has obviously affected our ﬁ nancial performance. The board understands the importance of the dividend to investors in these difﬁ cult times and, despite the weaker environment, we have held the quarterly dividend to be paid in March at 14 cents per share, compared with 13.525 cents per share for the same quarter of 2007. In sterling terms, the quarterly dividend is 9.818 pence per share, compared with 6.813 pence per share for the same quarter of 2007. During the year $2.9 billion of shares were repurchased for cancellation, compared with $7.5 billion in 2007. In response to feedback from investors we are now weighting shareholder returns towards dividends, as opposed to buybacks. The search for my successor has unfortunately taken longer than originally expected, in part due to the turbulent business environment. It is important that we ﬁ nd the right person and we envisage making an announcement in the coming months. In the meantime I have agreed, at the board’s request, to stay on as chairman and will seek re-election. So, this will be my last annual general meeting. It has truly been an honour for me to serve 12 years as chairman – and before that as a director – of what is one of the world’s great enterprises. During that time I have seen BP constantly evolve and, by most measures, nearly double in size. But the underlying principles of the international oil company’s business model continue to endure. BP and its peers make the energy markets work, by forming partnerships with resource-holding governments and applying our technology to bringing supplies of energy to millions of customers, every day. 2008 has been a reminder that the world economy depends on our efforts. BP Annual Report and Accounts 2008 Chairman’s letter Gathering pace Peter Sutherland Chairman 24 February 2009 Highlights • Dramatic change in business environment. • BP in strong position. 2 BP and its peers make the energy markets work, by forming partnerships with resource-holding governments and applying our technology to bringing supplies of energy to millions of customers, every day. 2008 has been a reminder that the world economy depends on our efforts. Throughout the year the board has supported Tony and his executive team in reforming the way in which the group works to ensure that everyone within BP is clear on its long-term purpose. It is vital that the role of the international oil company is deﬁned and understood both inside and outside the organization. While sticking to its principles, BP needs to be ﬂexible in the manner in which business is approached, developing a diverse portfolio of projects, with a robust cost structure, enabling the group to perform throughout the cycle. All our activities need to take place against a very clear view of risk. Events during the year have powerfully reinforced the need for boards to have a very clear understanding of the risks their businesses face. I believe the BP board and its committees have set a high standard in this regard and we continue to improve the manner in which we understand and evaluate risks whether they be strategic, geopolitical, compliance or operational. No business can be without risk. Indeed it is by taking strategic and commercial risks that we earn a return. We have had some notable operational and engineering successes in the year, which are described within this Annual Report and Accounts. There are several I could mention, including restoring economic capability at the Texas City reﬁnery, but I would particularly like to focus on the Gulf of Mexico, which is a proving to be a showcase for BP’s deepwater skills and technology. BP is now the number one producer there and Thunder Horse, the world’s largest semi-submersible platform, is on track to reach capacity of about 280,000boe/d in 2009. Thunder Horse is expected to be the second biggest producing ﬁeld in the US and is a powerful symbol of what BP can achieve. I am pleased we have reached an amicable settlement with our partners in our Russian joint venture, TNK-BP. This means BP has retained 50% ownership of what is an important option in one of the world’s most proliﬁ c hydrocarbon provinces. I would not normally single out individual executives, but I do want to pay tribute to the work that Bob Dudley has done as chief executive of TNK-BP. During his ﬁve-year tenure he transformed TNK-BP and it now leads the Russian oil industry on the basis of production growth, reserves replacement and total shareholder return. I am delighted that Bob will join the BP board in April. As a managing director, he will assume responsibility for broad oversight of the group’s activities in the Americas and Asia. We had a settled board for much of 2008, but we expect Bob to be the ﬁrst of several new appointments as we refresh the cadre of non-executive directors through 2009. In the past 12 years the energy industry has consolidated and taken major technical steps forward, beginning production in some of the more remote areas of the world, such as the deepwater Gulf of Mexico and the Russian Arctic. Our role has been deﬁ ned and redeﬁned and BP has led the way in accepting the need to tackle the threat of climate change. Throughout that time the BP board has had outstanding members and, without exception, I have worked with a group of extremely talented executives. I would like to thank all my board and executive colleagues past and present, and all BP’s employees. I would also like to thank the two company secretaries, Judith Hanratty and David Jackson, who have provided me with admirable support during my term. Finally, I thank all our shareholders for their support. During 2009 we are celebrating BP’s centenary and I am conﬁdent that BP can face the next 100 years with pride and a renewed sense of purpose. • 3 BP Annual Report and Accounts 2008 Group chief executive’s review Driving forward Tony Hayward Group Chief Executive 24 February 2009 Highlights • Progress with safe and reliable operations. • Major projects delivered and revenues restored. • Complexity and costs being reduced. In a year that will be remembered for extremely volatile oil prices and exceptional stock market turbulence, BP delivered an excellent set of results. We made good progress on achieving safe and reliable operations, and delivered strong operational momentum that reduced the performance gap with our competitors. During the year we beneﬁted from record high oil prices. Replacement cost proﬁt for the year was a record $25.6 billion, with a return on average capital employed greater than 20%. We outperformed the FTSE 100 by 17% and our ADSs outperformed the S&P 500 index of large cap US by 2%. At the start of the year what priorities did you set out for BP? Safety, people and performance, and these remain our priorities. Our number one priority was to do everything possible to achieve safe, compliant and reliable operations. Good policies and processes are essential but, ultimately, safety is about how people think and act. That’s critical at the front line but it is also true for the entire group. Safety must inform every decision and every action. The BP operating management system (OMS) turns the principle of safe and reliable operations into reality by governing how every BP project, site, operation and facility is managed. Our work on safety has been acknowledged inside and outside the group. For instance, the board’s independent expert, L Duane Wilson, continues to report on our progress in implementing the improvements recommended by the BP US Reﬁ neries Independent Safety Review Panel and identify areas that need more focused attention. Our most recent employee survey indicated employees are also seeing the results of our work to enhance safety. Clearly, there is more to do and safety remains at the front of our minds. Beyond safety, we are also committed to high ethical standards and legal compliance in all aspects of our business. We have continued to enhance and improve compliance programmes in areas such as our integrated supply and trading function. In last year’s Annual Report and Accounts I described the forward agenda we were pursuing to close the competitive gap by making BP a simpler and more efﬁcient organization. Throughout 2008 we maintained our focus on reducing cost and complexity, and embedding a strong performance culture throughout the group. We achieved success on both counts. Layers of management have been removed, there is accountability for performance at all levels and we have created a strong focus on leadership behaviours. How have these priorities affected your people? First, I would like to thank our employees for the part they have played in turning around BP’s performance. Their determination and commitment have been truly remarkable and we have come a long way in a short time. At the same time, we continue to provide excellent support for employees. From learning and development to diversity and inclusion, we are enabling people to achieve sustained high performance. Less complexity means we can now clearly identify top performers – both businesses and individuals – and reward them appropriately. How did Exploration and Production perform? It was an excellent year, with major projects such as Thunder Horse in the Gulf of Mexico and Deepwater Gunashli in Azerbaijan coming onstream. That, together with safe and reliable performance from our existing operations, contributed to underlying production growth – in contrast to the falling output of our major competitors – and more than compensated for the effects of Hurricanes Ike and Gustav and other operational issues. Rigorous cost control and efﬁ ciency offset the signiﬁcant cost inﬂation that hit our sector. The start of production at Thunder Horse was an important milestone in terms of recovery and renewal. It was also a good year for exploration with major new discoveries in Algeria, Angola, Egypt and the Gulf of Mexico. We also gained new access to oil sands in Canada and shale gas in the US, as well as gaining licences to explore in the Canadian Arctic. 2008 was our 15th consecutive year of delivering reported reserves replacement of more than 100%. 4 exploration, appraisal, development and the turnaround in Reﬁning and Marketing, we also invested $1.4 billion in alternative forms of energy such as wind, solar, biofuels and carbon capture and storage (CCS). Looking ahead, on the issue of greenhouse gas (GHG) emissions, we believe legislation is required to ensure that a cost of carbon is included in the price of everything. This would enable companies such as BP to make even greater investments in low-carbon energy. We favour cap-and-trade as it provides environmental certainty based on an absolute emissions cap. A global system is the ultimate objective, but progress must be made at national and regional levels ﬁ rst. It is getting tougher for BP and others to access new resources; do international oil companies really have a sustainable future? International oil companies thrive at the frontiers of the energy industry taking on challenges others are either unwilling or unable to address. BP continues to agree signiﬁcant new deals, from oil sands to the Beaufort Sea in Canada as well as making new discoveries in Algeria, Angola, Egypt and the Gulf of Mexico. We have also resolved the dispute with our TNK-BP joint venture partners in Russia. We secure these agreements because we can build enduring relationships and have technical capabilities and experience distinct in our industry. Research and technology play a vital role here. By improving the efﬁciency of fossil fuel recovery and discovery, promoting fuel conversion and developing low-carbon alternatives, we are helping to provide affordable, sustainable energy for today and tomorrow. What is the plan for Alternative Energy; what role will it play in BP’s portfolio? With both energy demand and carbon emissions rising, the world needs every sustainable, affordable energy source available. We invest a signiﬁcant amount in alternative energy technology compared with our peers and, for us, the key question is which technologies will make the greatest contribution to meeting energy demand while providing BP with strong growth businesses. In 2008 we prioritized areas with signiﬁ cant long-term growth potential – wind, solar, biofuels and CCS – and directed the majority of our $1.4 billion investment in the year to these areas. Is BP entering its centenary year in good shape? On the basis of our 2008 performance, I believe we can declare that ‘BP is back’. Clearly, however, we must continue to adjust to market conditions. Oil and gas prices go up and down; our job is to ensure we can compete and thrive through every part of the cycle, something we’ve been doing for 100 years. Despite the challenges ahead, I am conﬁdent that we now have the positive momentum and ﬂ exibility required to achieve success as we begin our next century. • 5 November 2008 Tony Hayward discusses operating priorities with employees at the BP Carson reﬁ nery, California, US. How far has Reﬁning and Marketing addressed its most critical problems? We made good progress on achieving safe, compliant and reliable operations. We improved reﬁ ning availability on an annualized basis from 83% to 89% and restored full economic capability at the Texas City and Whiting reﬁneries. In our fuels value chains we are achieving greater integration between reﬁ neries, terminals, pipelines and retail sites. The international businesses, which include lubricants, petrochemicals, aviation and marine fuels and liqueﬁed petroleum gas, have performed well. We have also started to address overhead cost by reducing senior level headcount and by simplifying the marketing footprint. Now it’s about driving greater consistency and efﬁ ciency through the business to capitalize on the leadership positions we enjoy in the most valuable markets. How is BP responding to the twin challenges of energy security and climate change? Our job is to help meet the world’s energy needs today, invest in the next generation of energy sources and support the transition to a low-carbon economy. Alternative energy production is growing but currently represents just 2% of global energy production, so the world will need fossil fuels for years to come – even if demand slows – and we will play an important role by meeting this need while developing options for the future. In 2008 we responded to these challenges by investing nearly $22 billiona in our businesses – an increase of 13% on 2007. Along with supporting our work on a Excluding acquisitions and asset exchanges and excluding the accounting for our transactions with Husky Energy Inc. and Chesapeake Energy Corporation. BP Annual Report and Accounts 2008 Our performance Progress in 2008 Safety Personal safety – recordable injury frequency Process safety – oil spills Environment – greenhouse gas emissions (million tonnes of carbon dioxide equivalent) 08 07 06 Employees Contractors 0.35 0.35 0.50 0.59 0.40 0.55a 08 07 06 335 340 417 08 07 06 61.4 63.5 64.4 Recordable injury frequency measures the number of reported work-related incidents that result in a fatality or injury (apart from minor first aid cases) per 200,000 hours worked. a 2006 contractor data corrected from 0.54 to 0.55. All spills of hydrocarbon greater than or equal to one barrel (159 litres, 42 US gallons). GHG emissions are emissions of CO2 and methane in million tonnes of CO2 equivalent. This is BP’s share of direct GHG emissions, representing all consolidated subsidiaries and BP’s share of equity-accounted entities except TNK-BP. People Employee satisfactiona (%) Number of employeesa Diversity and inclusion (%) 08 06 04 59 66 64 08 07 06 92,000 98,100b 97,000 08 07 06 Women Non-UK/US 14 19 19 16 17 20 The overall Employee Satisfaction Index comprises 10 key questions that provide insight into levels of employee satisfaction across a range of topics, such as pay. Employees includes all individuals who have a contract of employment with a BP group entity. a As at 31 December. b 2007 data corrected from 97,600 a The People Assurance Survey, conducted to 98,100. The percentage of women and individuals from countries other than the UK and US among BP’s top 583 leaders (2007 624, 2006 625). in 2004 and 2006, used a census methodology and targeted the entire BP employee population. Based on the same set of questions, the Pulse Plus Survey, in 2008, adopted a sample-based approach, which achieved a representative view of BP. 6 Here we present our key measures of progress in the three priority areas of safety, people and performance. While the measures we use to chart financial performance are well established, we continue to evolve safety and people measures to further enhance our reporting. Performance Production (thousand barrels of oil equivalent per day) Reserves replacement ratioa b (%) Refining availability (%) Operating cash flow ($ billion) 08 07 06 3,838 3,818 3,926 08 07 06 121c 112 113 08 07 06 89 83 83 08 07 06 38.1 24.7 28.2 Crude oil, natural gas liquids (NGLs) and natural gas produced from subsidiaries and equity-accounted entities. Converted to barrels of oil equivalent (boe) at 1 barrel of NGL = 1boe and 5,800 standard cubic feet of natural gas = 1boe. Proved reserves replacement ratio (also known as the production replacement ratio) is the extent to which production is replaced by proved reserves additions. The ratio is expressed in oil equivalent terms and includes changes resulting from revisions to previous estimates, improved recovery and extensions and discoveries. a Combined basis of subsidiaries and equity-accounted entities, excluding acquisitions and disposals. b See page 21, footnote f. c See page 11, footnote f. Refining availability represents Solomon Associates’ operational availability, which is defined as the percentage of the year that a unit is available for processing after subtracting the annualized time lost due to turnaround activity and all planned mechanical, process and regulatory maintenance downtime. Operating cash flow is net cash flow provided by operating activities, from the group cash flow statement. Operating activities are the principal revenue-producing activities of the group and other activities that are not investing or financing activities. Replacement cost profit per ordinary share (cents) Dividends paid per ordinary share Total shareholder return (%) 08 07 06 136.20 95.85 110.95 08 07 06 29.387 20.995 42.30 38.40 21.104 55.05 -34.5 -15.1 0808 0707 06 06 14.0 7.0 4.7 -4.6 Cents Pence ADS basis Ordinary share basis Replacement cost profit reflects the replacement cost of supplies. It is arrived at by excluding from profit inventory holding gains and losses and their associated tax effect. (See footnotes a and b on page 1.) The total dividend per share paid to ordinary shareholders in the year. Total shareholder return represents the change in value of a shareholding over a calendar year, assuming that dividends are re-invested to purchase additional shares at the closing price applicable on the ex-dividend date. 7 8 Performance review 10 Selected financial and operating 43 Environment information 12 Risk factors 14 Forward-looking statements 14 Statements regarding competitive position 15 Information on the company 17 Exploration and Production 31 Refining and Marketing 37 Other businesses and corporate 40 Research and technology 41 Regulation of the group’s business 41 Safety 48 Employees 49 Social and community issues 49 Essential contracts 49 Property, plants and equipment 49 Organizational structure 50 Financial and operating performance 58 Liquidity and capital resources 61 Critical accounting policies i i w w e e v v e e r r e e c c n n a a m m r r o o f f r r e e P P BP Annual Report and Accounts 2008 Performance review Selected financial and operating information This information, insofar as it relates to 2008, has been extracted or derived from the audited financial statements of the BP group presented on pages 101-179. Note 1 to the Financial statements includes details on the basis of preparation of these financial statements. The selected information should be read in conjunction with the audited financial statements and related Notes elsewhere herein. BP sold its Innovene operations in December 2005. In the circumstances of discontinued operations, IFRS require that the profits earned by the discontinued operations, in this case the Innovene operations, on sales to the continuing operations be eliminated on consolidation from the discontinued operations and attributed to the continuing operations and vice versa. Income statement data Total revenuesa Profit before interest and taxation from continuing operationsa Profit from continuing operationsa Profit for the year Profit for the year attributable to BP shareholders Capital expenditure and acquisitionsb Per ordinary share – cents Profit for the year attributable to BP shareholders Basic Diluted Profit from continuing operations attributable to BP shareholdersa Basic Diluted Dividends paid per share – cents – pence Ordinary share datac Average number outstanding of 25 cent ordinary shares (shares million undiluted) Average number outstanding of 25 cent ordinary shares (shares million diluted) Balance sheet data Total assets Net assets Share capital BP shareholders’ equity Finance debt due after more than one year Net debt to net debt plus equityd 2008 2007 2006 2005 2004 $ million except per share amounts 365,700 35,239 21,666 21,666 21,157 30,700 112.59 111.56 112.59 111.56 55.05 29.387 288,951 32,352 21,169 21,169 20,845 20,641 108.76 107.84 108.76 107.84 42.30 20.995 270,602 35,158 22,311 22,286 22,000 17,231 109.84 109.00 109.97 109.12 38.40 21.104 243,948 32,682 22,448 22,632 22,341 14,149 194,919 25,746 17,884 17,262 17,075 16,651 105.74 104.52 104.87 103.66 34.85 19.152 78.24 76.87 81.09 79.66 27.70 15.251 18,790 18,963 19,163 19,327 20,028 20,195 21,126 21,411 21,821 22,293 228,238 92,109 5,176 91,303 17,464 21% 236,076 94,652 5,237 93,690 15,651 22% 217,601 85,465 5,385 84,624 11,086 20% 206,914 80,765 5,185 79,976 10,230 17% 194,630 78,235 5,403 76,892 12,907 22% aExcludes Innovene, which was treated as a discontinued operation in accordance with IFRS 5 ‘Non-current Assets Held for Sale and Discontinued Operations’ in 2004, 2005 and 2006. b2008 included capital expenditure of $2,822 million and an asset exchange of $1,909 million, both in respect of our transaction with Husky, as well as capital expenditure of $3,667 million in respect of our transactions with Chesapeake (see page 51). 2007 included $1,132 million for the acquisition of Chevron’s Netherlands manufacturing company. Capital expenditure in 2006 included $1 billion in respect of our investment in Rosneft. Capital expenditure and acquisitions for 2004 included $1,354 million for including TNK’s interest in Slavneft within TNK-BP and $1,355 million for the acquisition of Solvay’s interests in BP Solvay Polyethylene Europe and BP Solvay Polyethylene North America. With the exception of the shares issued to Alfa Group and Access Renova (AAR) in connection with TNK-BP (2004-2006), all capital expenditure and acquisitions during the past five years have been financed from cash flow from operations, disposal proceeds and external financing. cThe number of ordinary shares shown has been used to calculate per share amounts. dNet debt and the ratio of net debt to net debt plus equity ratio are non-GAAP measures. We believe that these measures provide useful information to investors. Net debt enables investors to see the economic effect of gross debt, related hedges and cash and cash equivalents in total. The net debt ratio enables investors to see how significant net debt is relative to equity from shareholders. Net debt has been redefined to include the fair value of associated derivative financial instruments that are used to hedge foreign exchange and interest rate risks relating to finance debt, for which hedge accounting is claimed. The derivatives are reported on the balance sheet within the headings ‘Derivative financial instruments’. Amounts for comparative periods are presented on a consistent basis. Revised definition of net debt As reported Net debt Equity Ratio of net debt to net debt plus equity As amended Net debt Equity Ratio of net debt to net debt plus equity 10 2007 2006 2005 27,483 94,652 23% 26,817 94,652 22% 21,420 85,465 20% 21,122 85,465 20% 16,202 80,765 17% 16,373 80,765 17% $ million 2004 21,732 78,235 22% 21,732 78,235 22% BP Annual Report and Accounts 2008 Performance review Production and net proved oil and natural gas reserves The following table shows our production for the past five years and the estimated net proved oil and natural gas reserves at the end of each of those years. Production and net proved reservesa Crude oil production for subsidiaries (thousand barrels per day) Crude oil production for equity-accounted entities (thousand barrels per day) Natural gas production for subsidiaries (million cubic feet per day) Natural gas production for equity-accounted entities (million cubic feet per day) Estimated net proved crude oil reserves for subsidiaries (million barrels)b Estimated net proved crude oil reserves for equity-accounted entities (million barrels)c Estimated net proved natural gas reserves for subsidiaries (billion cubic feet)d Estimated net proved natural gas reserves for equity-accounted entities 2008f 1,263 1,138 7,277 1,057 5,665 4,688 40,005 2007 1,304 1,110 7,222 921 5,492 4,581 41,130 2006 1,351 1,124 7,412 1,005 5,893 3,888 42,168 2005 1,423 1,139 7,512 912 6,360 3,205 44,448 2004 1,480 1,051 7,624 879 6,755 3,179 45,650 (billion cubic feet)e 5,203 3,770 3,763 3,856 2,857 aCrude oil includes natural gas liquids (NGLs) and condensate. Production and proved reserves exclude royalties due to others, whether payable in cash or in kind, where the royalty owner has a direct interest in the underlying production and the option and ability to make lifting and sales arrangements independently, and include minority interests in consolidated operations. bIncludes 21 million barrels (20 million barrels at 31 December 2007 and 23 million barrels at 31 December 2006) in respect of the 30% minority interest in BP Trinidad and Tobago LLC. cIncludes 216 million barrels (210 million barrels at 31 December 2007 and 179 million barrels at 31 December 2006) in respect of the 6.80% minority interest in TNK-BP (6.51% at 31 December 2007 and 6.29% at 31 December 2006). dIncludes 3,108 billion cubic feet of natural gas (3,211 billion cubic feet at 31 December 2007 and 3,537 billion cubic feet at 31 December 2006) in respect of the 30% minority interest in BP Trinidad and Tobago LLC. eIncludes 131 billion cubic feet (68 billion cubic feet at 31 December 2007 and 99 billion cubic feet at 31 December 2006) in respect of the 5.92% minority interest in TNK-BP (5.88% at 31 December 2007 and 7.77% at 31 December 2006). fBP estimates proved reserves for reporting purposes in accordance with SEC rules and relevant guidance. As currently required, these proved reserve estimates are based on prices and costs as of the date the estimate is made. There was a rapid and substantial decline in oil prices in the fourth quarter of 2008 that was not matched by a similar reduction in operating costs by the end of the year. BP does not expect that these economic conditions will continue. However, our 2008 reserves are calculated on the basis of operating activities that would be undertaken were year-end prices and costs to persist. During 2008, 1,085 million barrels of oil and natural gas, on an oil equivalent* basis (mmboe), were added to BP’s proved reserves for subsidiaries (excluding purchases and sales). After allowing for production, which amounted to 937mmboe, BP’s proved reserves for subsidiaries were 12,562mmboe at 31 December 2008. These proved reserves are mainly located in the US (44%), Rest of Americas (17%), Asia Pacific (10%), Africa (11%) and the UK (8%). For equity-accounted entities, 646mmboe were added to proved reserves (excluding purchases and sales), production was 491mmboe and proved reserves were 5,585mmboe at 31 December 2008. *Natural gas is converted to oil equivalent at 5.8 billion cubic feet (bcf) = 1 million barrels. i i w w e e v v e e r r e e c c n n a a m m r r o o f f r r e e P P 11 BP Annual Report and Accounts 2008 Performance review Risk factors We urge you to consider carefully the risks described below. If any of these risks occur, our business, financial condition and results of operations could suffer and the trading price and liquidity of our securities could decline, in which case you could lose all or part of your investment. In the current global financial crisis and uncertain economic environment, certain risks may gain more prominence either individually or when taken together. Oil and gas prices and margins are likely to remain lower than in recent times due to reduced demand; the impact of this situation will also depend on the degree to which producers reduce production. At the same time, governments will be facing greater pressure on public finances leading to the risk of increased taxation. These factors may also lead to intensified competition for market share and available margin, with consequential potential adverse effects on volumes. The financial and economic situation may have a negative impact on third parties with whom we do, or may do, business. Any of these factors may affect our results of operations, financial condition and liquidity. If there is an extended period of constraint in the capital markets, with debt markets in particular experiencing lack of liquidity, at a time when cash flows from our business operations may be under pressure, this may impact our ability to maintain our long-term investment programme with a consequent effect on our growth rate, and may impact shareholder returns, including dividends and share buybacks, or share price. Decreases in the funded levels of our pension plans may also increase our pension funding requirements. Our system of risk management provides the response to risks of group significance through the establishment of standards and other controls. Inability to identify, assess and respond to risks through this and other controls could lead to an inability to capture opportunities, threats materializing, inefficiency and non-compliance with laws and regulations. The risks are categorized against the following areas: strategic; compliance and control; and operational. Strategic risks Access and renewal Successful execution of our group plan depends critically on implementing activities to renew and reposition our portfolio. The challenges to renewal of our upstream portfolio are growing due to increasing competition for access to opportunities globally. Lack of material positions in new markets and/or inability to complete disposals could result in an inability to grow or even maintain our production. Prices and markets Oil, gas and product prices are subject to international supply and demand. Political developments and the outcome of meetings of OPEC can particularly affect world supply and oil prices. Previous oil price increases have resulted in increased fiscal take, cost inflation and more onerous terms for access to resources. As a result, increased oil prices may not improve margin performance. In addition to the adverse effect on revenues, margins and profitability from any fall in oil and natural gas prices, a prolonged period of low prices or other indicators would lead to further reviews for impairment of the group’s oil and natural gas properties. Such reviews would reflect management’s view of long-term oil and natural gas prices and could result in a charge for impairment that could have a significant effect on the group’s results of operations in the period in which it occurs. Rapid material and/or sustained change in oil, gas and product prices can impact the validity of the assumptions on which strategic decisions are based and, as a result, the ensuing actions derived from those decisions may no longer be appropriate. A prolonged period of low oil prices may impact our ability to maintain our long-term investment programme with a consequent effect on our growth rate and may impact shareholder returns, including dividends and share buybacks, or share price. 12 Periods of global recession could impact the demand for our products, the prices at which they can be sold and affect the viability of the markets in which we operate. Refining profitability can be volatile, with both periodic oversupply and supply tightness in various regional markets. Sectors of the chemicals industry are also subject to fluctuations in supply and demand within the petrochemicals market, with a consequent effect on prices and profitability. Climate change and carbon pricing Compliance with changes in laws, regulations and obligations relating to climate change could result in substantial capital expenditure, reduced profitability from changes in operating costs, and revenue generation and strategic growth opportunities being impacted. Socio-political We have operations in countries where political, economic and social transition is taking place. Some countries have experienced political instability, changes to the regulatory environment, expropriation or nationalization of property, civil strife, strikes, acts of war and insurrections. Any of these conditions occurring could disrupt or terminate our operations, causing our development activities to be curtailed or terminated in these areas or our production to decline and could cause us to incur additional costs. In particular, our investments in Russia could be adversely affected by heightened political and economic environment risks. We set ourselves high standards of corporate citizenship and aspire to contribute to a better quality of life through the products and services we provide. If it is perceived that we are not respecting or advancing the economic and social progress of the communities in which we operate, our reputation and shareholder value could be damaged. Competition The oil, gas and petrochemicals industries are highly competitive. There is strong competition, both within the oil and gas industry and with other industries, in supplying the fuel needs of commerce, industry and the home. Competition puts pressure on product prices, affects oil products marketing and requires continuous management focus on reducing unit costs and improving efficiency. The implementation of group strategy requires continued technological advances and innovation including advances in exploration, production, refining, petrochemicals manufacturing technology and advances in technology related to energy usage. Our performance could be impeded if competitors developed or acquired intellectual property rights to technology that we required or if our innovation lagged the industry. Investment efficiency Our organic growth is dependent on creating a portfolio of quality options and investing in the best options. Ineffective investment selection could lead to loss of value and higher capital expenditure. Reserves replacement Successful execution of our group strategy depends critically on sustaining long-term reserves replacement. If upstream resources are not progressed to proved reserves in a timely and efficient manner, we will be unable to sustain long-term replacement of reserves. BP Annual Report and Accounts 2008 Performance review Liquidity, financial capacity and financial exposure The group has established a financial framework to ensure that it is able to maintain an appropriate level of liquidity and financial capacity and to constrain the level of assessed capital at risk for the purposes of positions taken in financial instruments. Failure to operate within our financial framework could lead to the group becoming financially distressed leading to a loss of shareholder value. Commercial credit risk is measured and controlled to determine the group’s total credit risk. Inability to determine adequately our credit exposure could lead to financial loss. A credit crisis affecting banks and other sectors of the economy could impact the ability of counterparties to meet their financial obligations to the group. It could also affect our ability to raise capital to fund growth. Crude oil prices are generally set in US dollars, while sales of refined products may be in a variety of currencies. Fluctuations in exchange rates can therefore give rise to foreign exchange exposures, with a consequent impact on underlying costs and revenues. For more information on financial instruments and financial risk factors see Financial statements – Note 28 on page 142 and Note 34 on page 150. Compliance and control risks Regulatory The oil industry is subject to regulation and intervention by governments throughout the world in such matters as the award of exploration and production interests, the imposition of specific drilling obligations, environmental and health and safety protection controls, controls over the development and decommissioning of a field (including restrictions on production) and, possibly, nationalization, expropriation, cancellation or non-renewal of contract rights. We buy, sell and trade oil and gas products in certain regulated commodity markets. The oil industry is also subject to the payment of royalties and taxation, which tend to be high compared with those payable in respect of other commercial activities, and operates in certain tax jurisdictions that have a degree of uncertainty relating to the interpretation of, and changes to, tax law. As a result of new laws and regulations or other factors, we could be required to curtail or cease certain operations, or we could incur additional costs. For more information on environmental regulation, see Environment on page 43. Ethical misconduct and non-compliance Our code of conduct, which applies to all employees, defines our commitment to integrity, compliance with all applicable legal requirements, high ethical standards and the behaviours and actions we expect of our businesses and people wherever we operate. Incidents of ethical misconduct or non-compliance with applicable laws and regulations could be damaging to our reputation and shareholder value. Multiple events of non-compliance could call into question the integrity of our operations. For certain legal proceedings involving the group, see Legal proceedings on page 92. Liabilities and provisions Changes in the external environment, such as new laws and regulations, market volatility or other factors, could affect the adequacy of our provisions for pensions, tax, environmental and legal liabilities. Reporting External reporting of financial and non-financial data is reliant on the integrity of systems and people. Failure to report data accurately and in compliance with external standards could result in regulatory action, legal liability and damage to our reputation. Operational risks Process safety Inherent in our operations are hazards that require continuous oversight and control. There are risks of technical integrity failure and loss of containment of hydrocarbons and other hazardous material at operating sites or pipelines. Failure to manage these risks could result in injury or loss of life, environmental damage, or loss of production and could result in regulatory action, legal liability and damage to our reputation. Personal safety Inability to provide safe environments for our workforce and the public could lead to injuries or loss of life and could result in regulatory action, legal liability and damage to our reputation. Environmental If we do not apply our resources to overcome the perceived trade-off between global access to energy and the protection or improvement of the natural environment, we could fail to live up to our aspirations of no or minimal damage to the environment and contributing to human progress. Security Security threats require continuous oversight and control. Acts of terrorism against our plants and offices, pipelines, transportation or computer systems could severely disrupt business and operations and could cause harm to people. Product quality Supplying customers with on-specification products is critical to maintaining our licence to operate and our reputation in the marketplace. Failure to meet product quality standards throughout the value chain could lead to harm to people and the environment and loss of customers. Drilling and production Exploration and production require high levels of investment and are subject to natural hazards and other uncertainties, including those relating to the physical characteristics of an oil or natural gas field. The cost of drilling, completing or operating wells is often uncertain. We may be required to curtail, delay or cancel drilling operations because of a variety of factors, including unexpected drilling conditions, pressure or irregularities in geological formations, equipment failures or accidents, adverse weather conditions and compliance with governmental requirements. Transportation All modes of transportation of hydrocarbons contain inherent risks. A loss of containment of hydrocarbons and other hazardous material could occur during transportation by road, rail, sea or pipeline. This is a significant risk due to the potential impact of a release on the environment and people and given the high volumes involved. Major project delivery Successful execution of our group plan (see page 15) depends critically on implementing the activities to deliver the major projects over the plan period. Poor delivery of any major project that underpins production growth and/or a major programme designed to enhance shareholder value could adversely affect our financial performance. Digital infrastructure The reliability and security of our digital infrastructure are critical to maintaining our business applications availability. A breach of our digital security could cause serious damage to business operations and, in some circumstances, could result in injury to people, damage to assets, harm to the environment and breaches of regulations. i i w w e e v v e e r r e e c c n n a a m m r r o o f f r r e e P P 13 By their nature, forward-looking statements involve risk and uncertainty because they relate to events and depend on circumstances that will or may occur in the future and are outside the control of BP. Actual results may differ materially from those expressed in such statements, depending on a variety of factors, including the specific factors identified in the discussions accompanying such forward-looking statements; the timing of bringing new fields onstream; future levels of industry product supply, demand and pricing; operational problems; general economic conditions; political stability and economic growth in relevant areas of the world; changes in laws and governmental regulations; exchange rate fluctuations; development and use of new technology; the success or otherwise of partnering; the actions of competitors; natural disasters and adverse weather conditions; changes in public expectations and other changes to business conditions; wars and acts of terrorism or sabotage; and other factors discussed elsewhere in this report including under ‘Risk factors’ on pages 12-14. In addition to factors set forth elsewhere in this report, those set out above are important factors, although not exhaustive, that may cause actual results and developments to differ materially from those expressed or implied by these forward-looking statements. Statements regarding competitive position Statements referring to BP’s competitive position are based on the company’s belief and, in some cases, rely on a range of sources, including investment analysts’ reports, independent market studies and BP’s internal assessments of market share based on publicly available information about the financial results and performance of market participants. BP Annual Report and Accounts 2008 Performance review Business continuity and disaster recovery Contingency plans are required to continue or recover operations following a disruption or incident. Inability to restore or replace critical capacity to an agreed level within an agreed timeframe would prolong the impact of any disruption and could severely affect business and operations. Crisis management Crisis management plans and capability are essential to deal with emergencies at every level of our operations. If we do not respond or are perceived not to respond in an appropriate manner to either an external or internal crisis, our business and operations could be severely disrupted. People and capability Employee training, development and successful recruitment of new staff, in particular petroleum engineers and scientists, are key to implementing our plans. Inability to develop the human capacity and capability across the organization could jeopardize performance delivery. Treasury and trading activities In the normal course of business, we are subject to operational risk around our treasury and trading activities. Control of these activities is highly dependent on our ability to process, manage and monitor a large number of complex transactions across many markets and currencies. Shortcomings or failures in our systems, risk management methodology, internal control processes or people could lead to disruption of our business, financial loss, regulatory intervention or damage to our reputation. Forward-looking statements In order to utilize the ‘Safe Harbor’ provisions of the United States Private Securities Litigation Reform Act of 1995, BP is providing the following cautionary statement. This document contains certain forward-looking statements with respect to the financial condition, results of operations and businesses of BP and certain of the plans and objectives of BP with respect to these items. These statements may generally, but not always, be identified by the use of words such as ‘will’, ‘expects’, ‘is expected to’, ‘aims’, ‘should’, ‘may’, ‘objective’, ‘is likely to’, ‘intends’, ‘believes’, ‘plans’, ‘we see’ or similar expressions. In particular, among other statements, (i) certain statements in Performance review (pages 10-60) with regard to strategy, management aims and objectives, future capital expenditure, future hydrocarbon production volume, date(s) or period(s) in which production is scheduled or expected to come onstream or a project or action is scheduled or expected to begin or be completed, capacity of planned plants or facilities and impact of health, safety and environmental regulations; (ii) the statements in Performance review (pages 10-49) with regard to planned expansion, investment or other projects and future regulatory actions; and (iii) the statements in Performance review (pages 50-63) with regard to the plans of the group, the cost of and provision for future remediation programmes, taxation, liquidity and costs for providing pension and other post-retirement benefits; and including under ‘Liquidity and capital resources’ with regard to oil prices, production, demand for refining products, refining volumes and margins and impact on the petrochemicals sector, refining availability, continuing priority of safe, compliant and reliable operations, and focus on cost efficiency, cost deflation, capital expenditure, expected disposal proceeds, cash flows, shareholder distributions, gearing, working capital, guarantees, expected payments under contractual and commercial commitments and purchase obligations; are all forward-looking in nature. 14 BP Annual Report and Accounts 2008 Performance review Information on the company General Unless otherwise indicated, information in this document reflects 100% of the assets and operations of the company and its subsidiaries that were consolidated at the date or for the periods indicated, including minority interests. Also, unless otherwise indicated, figures for total revenues include sales between BP businesses. The company was incorporated in 1909 in England and Wales and changed its name to BP p.l.c. in 2001. BP is one of the world’s leading oil companies on the basis of market capitalization and proved reserves. Our worldwide headquarters is located at 1 St James’s Square, London SW1Y 4PD, UK, tel +44 (0)20 7496 4000. Our agent in the US is BP America Inc., 501 Westlake Park Boulevard, Houston, Texas 77079, tel +1281 366 2000. Overview of the group BP is a global group, with interests and activities held or operated through subsidiaries, jointly controlled entities or associates established in, and subject to the laws and regulations of, many different jurisdictions. These interests and activities covered two business segments in 2008: Exploration and Production and Refining and Marketing. With effect from 1 January 2008, the former Gas, Power and Renewables segment ceased to report separately (see Resegmentation in 2008 on page 16). A separate business, Alternative Energy, reported in Other businesses and corporate, handles BP’s low-carbon businesses and future growth options outside oil and gas. Exploration and Production’s activities include oil and natural gas exploration, development and production (upstream activities), together with related pipeline, transportation and processing activities (midstream activities), as well as the marketing and trading of natural gas (including LNG), power and natural gas liquids (NGLs). The activities of Refining and Marketing include the refining, manufacturing, supply and trading, marketing and transportation of crude oil, petroleum and petrochemicals products and related services. The group provides high-quality technological support for all its businesses through its research and engineering activities. All these activities are supported by a number of other organizational elements comprising group functions and regions. Group functions serve the business segments, aiming to achieve coherence across the group, manage risks effectively and achieve economies of scale. In addition, each regional head provides the required integration and co-ordination of group activities and represents BP to external parties. Internal control The group’s system of internal control is designed to meet the expectations of internal control of the Combined Code in the UK and of COSO (committee of the sponsoring organizations for the Treadway Commission) in the US. The system of internal control is the complete set of management systems, organizational structures, processes, standards and behaviours that are employed to conduct the business of BP and deliver returns to shareholders. The design of the system of internal control addresses risks and how to respond to them. Each component of the system is in itself a device to respond to a particular type or collection of risks. Strategy The group strategy describes the group’s strategic objectives and the assumptions made by BP about the future. It describes strategic risks and opportunities that arise from making such assumptions and the actions to be taken to manage or mitigate the risks. The board delegates to the group chief executive responsibility for developing BP’s strategy and its implementation through the group plan that determines the setting of priorities and allocation of resources. The group chief executive is obliged to discuss with the board, on the basis of the strategy and group plan, all material matters currently or prospectively affecting BP’s performance. During 2008, we continued to pursue our three strategic priorities of ‘Safety’, ‘People’ and ‘Performance’, which underpin BP’s ’forward agenda’. Through this, we have taken steps to restore revenues, reduce complexity and manage costs and have made significant progress towards closing the competitive performance gap to our peer group. Looking forward, our strategy is to create value for shareholders by investing to deliver growth in Exploration and Production, together with high-quality earnings and returns throughout our operations. Our first priority will always be to ensure the safety and integrity of our operations. We expect Exploration and Production to be our core source of growth. We intend to re-invest competitively in Exploration and Production to secure and grow high-quality oil and gas resources. This investment is intended to be focused on strengthening our position further by securing new access and achieving exploration success. It is also intended to be targeted on a renewed focus on increasing recovery from fields in which we already operate. We expect to make investment across the full life cycle of our assets with an increased emphasis on technology as a source of productivity, access and competitive advantage. In Refining and Marketing, we expect to continue building our business around advantaged assets in material and significant energy markets. We intend to continue investing in improving the safety and reliability of our operations. Additionally, we intend to drive further operational performance and productivity by investing in the upgrade of manufacturing capabilities within our integrated fuels value chains. We also intend to invest selectively in international businesses, including lubricants and petrochemicals, where we believe there is the potential to deliver strong returns. In Alternative Energy, we are focusing our investment activity in new energy technology and low-carbon energy businesses that we believe will provide long-term options to meet energy demand and provide BP with significant long-term growth potential. These are wind, solar, biofuels and carbon capture and storage. We are dependent on our people and technology to deliver on our strategy. We intend to invest in ensuring that we have people with the right capability and experience to meet all of our objectives and the technology to support the delivery of competitive business performance and new business development. BP is committed to delivering its strategy by operating safely, reliably, in compliance with the law and within the discipline of a clear financial framework. Geographical presence We have well-established operations in Europe, the US, Canada, Russia, South America, Australasia, Asia and parts of Africa. Currently, around 67% of the group’s capital is invested in Organisation for Economic Cooperation and Development (OECD) countries, with around 41% of our fixed assets located in the US and around 20% located in Europe. We believe that BP has a strong portfolio of assets: • In Exploration and Production, we have upstream interests in 29 countries. Exploration and Production activities are managed through operating units that are accountable for the day-to-day management of the segment’s activities. An operating unit is accountable for one or more fields. Our current areas of major development include the deepwater Gulf of Mexico, Azerbaijan, Algeria, Angola, Egypt and Asia Pacific where we believe we have competitive advantage and the foundation for volume growth and improved margins in the future. We also have significant midstream activities to support our upstream interests. Additionally, we undertake natural gas, power and NGLs marketing and trading activity and LNG activity, which are focused on identifying and capturing worldwide opportunities for our upstream natural gas reserves, and we have an NGLs processing business in North America. 15 i i w w e e v v e e r r e e c c n n a a m m r r o o f f r r e e P P Acquisitions and disposals There were no significant acquisitions in 2006, 2007 or 2008. In 2008, we completed an asset exchange with Husky Energy Inc., and asset purchases from Chesapeake Energy Corporation as described on page 51. In 2007, BP acquired Chevron’s Netherlands manufacturing company, Texaco Raffiniderij Pernis B.V. The acquisition included Chevron’s 31% minority shareholding in Nerefco, its 31% shareholding in the 22.5MW wind farm co-located at the refinery as well as a 22.8% shareholding in the TEAM joint venture terminal and shareholdings in two local pipelines linking the TEAM terminal to the refinery. Disposal proceeds were $4,267 million, which included $1,903 million from the sale of the Coryton refinery and $605 million from the sale of our exploration and production gas infrastructure business in the Netherlands. In 2006, BP purchased 9.6% of the shares issued under Rosneft’s IPO for a consideration of $1 billion (included in capital expenditure). This represented an interest of around 1.4% in Rosneft. Disposal proceeds were $6,254 million, which included $2.1 billion on the sale of our interest in the Shenzi discovery and around $1.3 billion from the sale of our producing properties on the Outer Continental Shelf of the Gulf of Mexico to Apache Corporation. Resegmentation in 2008 On 11 October 2007, BP announced that it was to simplify its organizational structure by reducing the number of business segments. From 1 January 2008, BP has two business segments: Exploration and Production and Refining and Marketing. A separate business, Alternative Energy, handles BP’s low-carbon businesses and future growth options outside oil and gas and reports under Other businesses and corporate. As a result, and with effect from 1 January 2008: • The former Gas, Power and Renewables segment ceased to report separately. • The NGLs, LNG and gas and power marketing and trading businesses were transferred from the Gas, Power and Renewables segment to the Exploration and Production segment. • The Alternative Energy business was transferred from the Gas, Power and Renewables segment to Other businesses and corporate. • The Emerging Consumers Marketing Unit was transferred from Refining and Marketing to Alternative Energy (which is reported in Other businesses and corporate). • The Biofuels business was transferred from Refining and Marketing to Alternative Energy (which is reported in Other businesses and corporate). • The Shipping business was transferred from Refining and Marketing to Other businesses and corporate. BP Annual Report and Accounts 2008 Performance review • In Refining and Marketing, we have a strong presence in the US and Europe. In the US, we market under the Amoco and BP brands in the midwest, east and south-east and under the ARCO brand on the west coast, and in Europe, under the BP and Aral brands. We have a long- established supply and trading activity responsible for delivering value across the crude and oil products supply chain. Our Aromatics & Acetyls business maintains a manufacturing position globally, with emphasis on growth in Asia. We also have, or are growing, businesses elsewhere in the world under the BP and Castrol brands, including a strong global lubricants portfolio and other business-to business marketing businesses (aviation and marine) covering the mobility sectors. We continue to seek opportunities to broaden our activities in growth markets such as China and India. Through non-US subsidiaries or other non-US entities, during the period covered by this report, BP conducted limited marketing, licensing and trading activities in, or with persons from, certain countries identified by the US Department of State as State Sponsors of Terrorism. BP believes that these activities are immaterial to the group. BP has interests in, and is the operator of, two fields and a pipeline located outside Iran in which the National Iranian Oil Company (NIOC) and an affiliated entity have interests. In Iran, BP buys small quantities of crude oil. This is primarily for sale to third parties in Europe and a small portion is used by BP in its own refineries in South Africa and Europe. In addition, BP sells small quantities of crude oil into Iran and blends and markets small quantities of lubricants for sale to domestic consumers through a joint venture there, which has a blending facility. However, BP does not seek to obtain from the government of Iran licences or agreements for oil and gas projects in Iran, is not conducting any technical studies in Iran and does not own or operate any refineries or chemicals plants in Iran. BP sells small quantities of lubricants in Cuba through a 50/50 joint venture there. In Syria, small quantities of lubricants are sold through a distributor and BP obtains small volumes of crude oil supplies for sale to third parties in Europe. In addition, BP sells small quantities of crude oil into Syria. These sales and purchases are insignificant and BP does not provide other goods, technologies or services in these countries. Market context Our market is a complex and fast-moving environment. In 2008, volatile energy price movements mirrored unsettled financial markets and wider economic uncertainty (see Risk factors on page 12). World oil consumption fell in 2008, with growing demand in fast growing non- OECD countries more than offset by falling consumption in the OECD countries. Gas consumption grew in the major markets. Anxieties around energy security continued, with individual consumer countries facing specific issues related to cost, geography and political relationships with producers. In terms of supply, substantial global reserves of oil and gas are in place but government, energy companies and industry must work together to bring these to market. There is also a clear need for greater energy diversity to address the competing challenges of growing demand and climate change. In terms of human resources, the energy industry also faces a shortage of professionals such as petroleum engineers and scientists. 16 In terms of the continued renewal of our oil and natural gas resource base, 2008 was one of our best years this decade for new discoveries. Total capital expenditure including acquisitions in 2008 was $22.2 billion (2007 $14.2 billion and 2006 $13.3 billion). In 2008, there were no significant acquisitions. Capital expenditure included $2.8 billion relating to the formation of an integrated North American oil sands business with Husky Energy Inc. It also included $3.7 billion relating to the purchase of all Chesapeake Energy Corporation’s interest in the Woodford Shale assets in the Arkoma basin, and the purchase of a 25% interest in Chesapeake’s Fayetteville Shale assets, enabling further growth of our North American gas business. There were no significant acquisitions in 2006 and 2007. Capital expenditure in 2006 included our investment of $1 billion in Rosneft. Development expenditure incurred in 2008, excluding midstream activities, was $11,767 million, compared with $10,153 million in 2007 and $9,109 million in 2006. Looking ahead, our priorities remain the same: safety, people and performance. We will continue to strive to deliver safe, reliable and efficient operations while maintaining our flexibility so we can respond to oil price volatility. In 2009, oil and gas prices are expected to be significantly lower than 2008. In response we will aim to use the operational momentum generated in 2008 to continue to increase the efficiency of our cost base and to build capability for the future. We intend to retain our rigour around capital investment, in particular pacing our development to take advantage of any cost reductions in a deflationary environment, and supporting our strategy of growing the upstream business. We believe that our portfolio of assets is strong and is well positioned to compete and grow in a range of external conditions. Comparative information presented in the table on the following page has been restated, where appropriate, to reflect the resegmentation, following transfers of certain businesses between segments, that was effective from 1 January 2008. See page 16 for more details. i i w w e e v v e e r r e e c c n n a a m m r r o o f f r r e e P P BP Annual Report and Accounts 2008 Performance review Exploration and Production Our Exploration and Production segment includes upstream and midstream activities in 29 countries, including Angola, Azerbaijan, Canada, Egypt, Russia, Trinidad & Tobago (Trinidad), the UK, the US and locations within Asia Pacific, Latin America, North Africa and the Middle East, as well as gas marketing and trading activities, primarily in Canada, Europe, the UK and the US. Upstream activities involve oil and natural gas exploration and field development and production. Our exploration programme is currently focused around Algeria, Angola, Azerbaijan, Canada, Egypt, the deepwater Gulf of Mexico, Libya, the North Sea and onshore US. Major development areas include Algeria, Angola, Asia Pacific, Azerbaijan, Egypt and the deepwater Gulf of Mexico. During 2008, production came from 21 countries. The principal areas of production are Angola, Asia Pacific, Azerbaijan, Egypt, Latin America, the Middle East, Russia, Trinidad, the UK and the US. Midstream activities involve the ownership and management of crude oil and natural gas pipelines, processing facilities and export terminals, LNG processing facilities and transportation, and our NGL extraction businesses in the US and UK. Our most significant midstream pipeline interests are the Trans-Alaska Pipeline System in the US, the Forties Pipeline System and the Central Area Transmission System pipeline, both in the UK sector of the North Sea, and the Baku-Tbilisi- Ceyhan pipeline, running through Azerbaijan, Georgia and Turkey. Major LNG activities are located in Trinidad, Indonesia and Australia. BP is also investing in the LNG business in Angola. Additionally, our activities include the marketing and trading of natural gas, power and natural gas liquids in the US, Canada, UK and Europe. These activities provide routes into liquid markets for BP's gas and power, and generate margins and fees associated with the provision of physical and financial products to third parties and additional income from asset optimization and trading. Our oil and natural gas production assets are located onshore and offshore and include wells, gathering centres, in-field flow lines, processing facilities, storage facilities, offshore platforms, export systems (e.g. transit lines), pipelines and LNG plant facilities. Upstream operations in Argentina, Bolivia, Abu Dhabi, Kazakhstan and TNK-BP and some of the Sakhalin operations in Russia, as well as some of our operations in Canada, Indonesia and Venezuela, are conducted through equity-accounted entities. Our performance in 2008 Profit before interest and tax for 2008 was $37.9 billion, an increase of 37% compared with 2007. The increase was primarily driven by higher oil and gas realizations. Our financial results are discussed in more detail on pages 52-53. In 2008, nine major projects came onstream. Production commenced at the Thunder Horse field, with four wells in operation by the end of the year, producing around 200,000boe/d (gross) making us the largest producer in the Gulf of Mexico. We also started oil production on our Deepwater Gunashli platform in the Azerbaijan sector of the Caspian Sea. Other significant successes included the start of oil and gas production at the Saqqara and Taurt fields in Egypt. Production from our established centres including the North Sea, Alaska, North America Gas and Trinidad & Tobago, was on plan. We are also increasing our ability to get more from fields by improving our overall recovery rates through developing and applying new technology. 17 BP Annual Report and Accounts 2008 Performance review Key statistics Total revenuesa Profit before interest and tax from continuing operationsb Total assets Capital expenditure and acquisitions Net proved reserves – group Net proved reserves – equity- accounted entities Liquids production – group Liquids production – equity- accounted entities Natural gas production – group Natural gas production – equity- 2008 89,902 2007 69,376 $ million 2006 71,868 37,915 136,665 27,729 125,736 30,953 124,803 22,227 14,207 13,252 million barrels of oil equivalent 12,562 12,583 13,163 5,585 5,231 4,537 thousand barrels per day 1,263 1,304 1,351 1,138 1,110 1,124 million cubic feet per day 7,277 7,222 7,412 accounted entities 1,057 921 1,005 Upstream activities Exploration The group explores for oil and natural gas under a wide range of licensing, joint venture and other contractual agreements. We may do this alone or, more frequently, with partners. BP acts as operator for many of these ventures. Our exploration and appraisal costs, excluding lease acquisitions, in 2008 were $2,290 million, compared with $1,892 million in 2007 and $1,765 million in 2006. These costs include exploration and appraisal drilling expenditures, which are capitalized within intangible fixed assets, and geological and geophysical exploration costs, which are charged to income as incurred. Approximately 51% of 2008 exploration and appraisal costs were directed towards appraisal activity. In 2008, we participated in 83 gross (34 net) exploration and appraisal wells in 11 countries. The principal areas of activity were Algeria, Angola, Azerbaijan, Canada, Egypt, the deepwater Gulf of Mexico, Libya, the North Sea and onshore US. Total exploration expense in 2008 of $882 million (2007 $756 million and 2006 $1,045 million) included the write-off of expenses related to unsuccessful drilling activities in Azerbaijan ($105 million), Faeroes ($83 million), Egypt ($64 million), deepwater Gulf of Mexico ($38 million), and others ($33 million). In 2008, we obtained upstream rights in several new tracts, which include the following: • In the Gulf of Mexico, we were awarded 125 blocks through the Outer Continental Shelf Lease Sales 205, 206 and 207. $ per barrel • In the US Lower 48 states, we acquired 225,000 net acres of shale Average BP crude oil realizationsc Average BP NGL realizationsc Average BP liquids realizationsc d Average West Texas Intermediate oil price Average Brent oil price 95.43 52.30 90.20 100.06 97.26 Average BP natural gas realizationsc Average BP US natural gas realizationsc 6.00 6.77 69.98 46.20 67.45 72.20 72.39 61.91 37.17 59.23 66.02 65.14 $ per thousand cubic feet 4.53 5.43 4.72 5.74 Average Henry Hub gas pricee 9.04 6.86 7.24 $ per million British thermal units Average UK National Balancing Point gas price 58.12 29.95 42.19 pence per therm aIncludes sales between businesses. bIncludes profit after interest and tax of equity-accounted entities. cRealizations are based on sales of consolidated subsidiaries only, which excludes equity-accounted entities. dCrude oil and natural gas liquids. eHenry Hub First of Month Index. Total revenues are analysed in more detail below. Sales and other operating revenues Earnings from equity-accounted entities (after interest and tax), interest and other revenues 2008 86,170 2007 65,740 $ million 2006 67,950 3,732 89,902 3,636 69,376 3,918 71,868 18 gas assets from Chesapeake Energy Corporation. • In Canada, BP acquired three licences, covering a total of approximately 6,000 square kilometres in the Canadian Beaufort Sea. • In India, BP acquired one block on the East Coast in the New Exploration Licensing Policy seventh round. In 2008, we were involved in a number of discoveries. In most cases, reserves bookings from these fields will depend on the results of ongoing technical and commercial evaluations, including appraisal drilling. Our most significant discoveries in 2008 included the following: • In Angola, we made further discoveries in the ultra deepwater (greater than 1,500 metres) Block 31 (BP 26.7% and operator) with the Portia and Dione wells, bringing the total number of discoveries in Block 31 to 16. • In Algeria, we discovered natural gas in the Tin Zaouatene-1 well in the Bourarhet Sud Blocks 230 and 231 (BP 49% and operator). • In Egypt, we made a discovery with the Satis (BP 50% and operator) well. • In the UK, we made two discoveries with the South West Foinaven (BP 72% and operator) and the Kinnoull (BP 77% and operator) wells. • In the deepwater Gulf of Mexico, we made two discoveries with the Kodiak (BP 63.75% and operator) and Freedom (BP 25% and operator) wells. Reserves and production Compliance IFRS does not provide specific guidance on reserves disclosures. BP estimates proved reserves in accordance with SEC Rule 4-10 (a) of Regulation S-X and relevant guidance notes and letters issued by the SEC staff. As currently required, these proved reserve estimates are based on prices and costs as of the date the estimate is made. On 31 December 2008, the SEC published a revised set of rules for the estimation of reserves. These revised rules will be used for the 2009 year-end estimation of reserves, and have not been used in the determination of reserves for year-end 2008. By their nature, there is always some risk involved in the ultimate development and production of reserves, including, but not limited to, final regulatory approval, the installation of new or additional infrastructure as well as changes in oil and gas prices, changes in operating and development costs and the continued availability of additional development capital. BP Annual Report and Accounts 2008 Performance review All the group’s oil and gas reserves held in consolidated companies have been estimated by the group’s petroleum engineers. Of the equity- accounted volumes in 2008, 18% were based on estimates prepared by group petroleum engineers and 82% were based on estimates prepared by independent engineering consultants, although all of the group’s oil and gas reserves held in equity-accounted entities are reviewed by the group’s petroleum engineers before making the assessment of volumes to be booked by BP. Our proved reserves are associated with both concessions (tax and royalty arrangements) and agreements where the group is exposed to the upstream risks and rewards of ownership, but where title to the hydrocarbons is not conferred, such as production-sharing agreements (PSAs). In a concession, the consortium of which we are a part is entitled to the reserves that can be produced over the licence period, which may be the life of the field. In a PSA, we are entitled to recover volumes that equate to costs incurred to develop and produce the reserves and an agreed share of the remaining volumes or the economic equivalent. As part of our entitlement is driven by the monetary amount of costs to be recovered, price fluctuations will have an impact on both production volumes and reserves. Sixteen per cent of our proved reserves are associated with PSAs. The main countries in which we operate under PSAs are Algeria, Angola, Azerbaijan, Egypt, Indonesia and Vietnam. We separately disclose our share of reserves held in equity- accounted entities (jointly controlled entities and associates), although we do not control these entities or the assets held by such entities. Resource progression BP manages its hydrocarbon resources in three major categories: prospect inventory, non-proved resources and proved reserves. When a discovery is made, volumes usually transfer from the prospect inventory to the non-proved resource category. The resources move through various non-proved resource sub-categories as their technical and commercial maturity increases through appraisal activity. Resources in a field will only be categorized as proved reserves when all the criteria for attribution of proved status have been met, including an internally imposed requirement for project sanction or for sanction typically expected within six months and, for additional reserves in existing fields, the requirement that the reserves be included in the business plan and scheduled for development, typically within three years. Where, on occasion, the group decides to book reserves where development is scheduled to commence after three years, these reserves will be booked only where they satisfy the SEC’s criteria for attribution of proved status. Internal approval and final investment decision are what we refer to as project sanction. At the point of sanction, all booked reserves will be categorized as proved undeveloped (PUD). Volumes will subsequently be recategorized from PUD to proved developed (PD) as a consequence of development activity. When part of a well’s reserves depends on a later phase of activity, only that portion of reserves associated with existing, available facilities and infrastructure moves to PD. The first PD bookings will occur at the point of first oil or gas production. Major development projects typically take one to four years from the time of initial booking of PUD reserves to the start of production. Changes to reserves bookings may be made due to analysis of new or existing data concerning production, reservoir performance, commercial factors, acquisition and divestment activity and additional reservoir development activity. Governance BP’s centrally controlled process for proved reserves estimation approval forms part of a holistic and integrated system of internal control. It consists of the following elements: • Accountabilities of certain officers of the group to ensure that there is review and approval of proved reserves bookings independent of the operating business and that there are effective controls in the approval process and verification that the proved reserves estimates and the related financial impacts are reported in a timely manner. • Capital allocation processes, whereby delegated authority is exercised to commit to capital projects that are consistent with the delivery of the group’s business plan. A formal review process exists to ensure that both technical and commercial criteria are met prior to the commitment of capital to projects. • Internal Audit, whose role includes systematically examining the effectiveness of the group’s financial controls designed to assure the reliability of reporting and safeguarding of assets and examining the group’s compliance with laws, regulations and internal standards. • Approval hierarchy, whereby proved reserves changes above certain threshold volumes require central authorization and periodic reviews. The frequency of review is determined according to field size and ensures that more than 80% of the BP reserves base undergoes central review every two years and more than 90% is reviewed every four years. For the executive directors and senior management, no specific portion of compensation bonuses is directly related to oil and natural gas reserves targets. Additions to proved reserves is one of several indicators by which the performance of the Exploration and Production segment is assessed by the remuneration committee for the purposes of determining compensation bonuses for the executive directors. Other indicators include a number of financial and operational measures. BP’s variable pay programme for the other senior managers in the Exploration and Production segment is based on individual performance contracts. Individual performance contracts are based on agreed items from the business performance plan, one of which, if chosen, could relate to oil and gas reserves. Reserve replacement Total hydrocarbon proved reserves, on an oil equivalent basis and excluding equity-accounted entities, comprised 12,562mmboe at 31 December 2008, a decrease of 0.2% compared with 31 December 2007. Natural gas represents about 55% of these reserves. The decrease includes a net decrease from acquisitions and divestments of 169mmboe, largely comprising a number of assets in Venezuela and the US. Total hydrocarbon proved reserves, on an oil equivalent basis for equity-accounted entities alone, comprised 5,585mmboe at 31 December 2008, an increase of 6.8% compared with 31 December 2007. Natural gas represents about 16% of these proved reserves. The increase includes a net increase from acquisitions and divestments of 199mmboe, largely comprising a number of assets in Venezuela. The proved reserves replacement ratio (also known as the production replacement ratio) is the extent to which production is replaced by proved reserves additions. This ratio is expressed in oil equivalent terms and includes changes resulting from revisions to previous estimates, improved recovery and extensions and discoveries, and may be expressed as a replacement ratio excluding acquisitions and divestments or as a total replacement ratio including acquisitions and divestments. BP estimates proved reserves for reporting purposes in accordance with SEC rules and relevant guidance. As currently required, these proved reserve estimates are based on prices and costs as of the date the estimate is made. There was a rapid and substantial decline in oil prices in the fourth quarter of 2008 that was not matched by a similar reduction in operating costs by the end of the year. BP does not expect that these economic conditions will continue. However, our 2008 reserves are calculated on the basis of operating activities that would be undertaken were year-end prices and costs to persist. i i w w e e v v e e r r e e c c n n a a m m r r o o f f r r e e P P 19 BP Annual Report and Accounts 2008 Performance review 2008 2007 2006 million barrels % Estimated net proved reserves of liquids at 31 December 2008a b c Proved reserves replacement ratio, excluding equity-accounted entities 116 44 34 Proved reserves replacement ratio, excluding equity-accounted entities, including sales and purchases of reserves-in-place Proved reserves replacement ratio, for equity- 98 38 11 accounted entities 132 248 272 Proved reserves replacement ratio, for equity- accounted entities, including sales and purchases of reserves-in-place Additions to proved developed reserves, excluding equity-accounted entities, including sales and purchases of reserves-in-placea Additions to proved developed reserves, for equity-accounted entities, including sales and purchases of reserves-in-placea Proved developed reserves replacement ratio, excluding equity-accounted entities, including sales and purchases of reserves-in-place Proved developed reserves replacement ratio, for equity-accounted entities, including sales and purchases of reserves-in-place 172 248 239 million barrels of oil equivalent 826 929 675 751 473 936 % 88 99 70 153 101 195 aThis includes some reserves that were previously classified as proved undeveloped. In 2008, net additions to the group’s proved reserves (excluding sales and purchases of reserves-in-place and equity-accounted entities) amounted to 1,085mmboe, principally through improved recovery from, and extensions to, existing fields and discoveries of new fields. Of the reserves additions through improved recovery from, and extensions to, existing fields and discoveries of new fields, approximately half are associated with new projects and are proved undeveloped reserves additions. The remainder are in existing developments where they represent a mixture of proved developed and proved undeveloped reserves. The principal reserves additions were in the US (Arkoma, Thunder Horse, Wamsutter), Trinidad (Mango), Asia-Pacific (Tangguh), Angola (Plutão, Saturno, Vênus and Marte, and Angola LNG) and Azerbaijan (ACG). Production Our total hydrocarbon production during 2008 averaged 2,517 thousand barrels of oil equivalent per day (mboe/d) for subsidiaries and 1,321mboe/d for equity-accounted entities, a decrease of 1.2% and an increase of 4.0% respectively compared with 2007. For subsidiaries, 36% of our production was in the US and 12% in the UK. For equity- accounted entities, 70% of production was from TNK-BP. Total production is expected to be somewhat higher in 2009. The actual growth rate will depend on a number of factors, including our pace of capital spending, the efficiency of that spend (in turn depending on industry cost deflation), the oil price and its impact on PSAs as well as OPEC quota restrictions. The following tables show BP’s estimated net proved reserves as at 31 December 2008. 20 UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Group Equity-accounted entities Developed 410 81 1,717 58 77 464 – 174 2,981 3,125 Undeveloped 119 194 1,273 56 69 496 – 477 2,684 1,563 Total 529 275 2,990d 114e 146 960 – 651 5,665 4,688f Estimated net proved reserves of natural gas at 31 December 2008a b c billion cubic feet UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Group Equity-accounted entities Developed 1,822 61 9,059 3,975 2,482 1,050 – 507 18,956 3,234 Undeveloped 582 402 5,473 7,902 4,275 1,382 – 1,033 21,049 1,969 Net proved reserves on an oil equivalent basis Group Equity-accounted entities Developed 6,249 3,683 Undeveloped 6,313 1,902 Total 2,404 463 14,532 11,877g 6,757 2,432 – 1,540 40,005 5,203h mmboe Total 12,562 5,585 a Proved reserves exclude royalties due to others, whether payable in cash or in kind, where the royalty owner has a direct interest in the underlying production and the option and ability to make lifting and sales arrangements independently, and include minority interests in consolidated operations. We disclose our share of reserves held in joint ventures and associates that are accounted for by the equity method although we do not control these entities or the assets held by such entities. b In certain deepwater fields, such as fields in the Gulf of Mexico, BP has claimed proved reserves before production flow tests are conducted, in part because of the significant safety, cost and environmental implications of conducting these tests. The industry has made substantial technological improvements in understanding, measuring and delineating reservoir properties without the need for flow tests. The general method of reserves assessment to determine reasonable certainty of commercial recovery which BP employs relies on the integration of three types of data: (1) well data used to assess the local characteristics and conditions of reservoirs and fluids; (2) field scale seismic data to allow the interpolation and extrapolation of these characteristics outside the immediate area of the local well control; and (3) data from relevant analogous fields. Well data includes appraisal wells or sidetrack holes, full logging suites, core data and fluid samples. BP considers the integration of this data in certain cases to be superior to a flow test in providing a better understanding of the overall reservoir performance. The collection of data from logs, cores, wireline formation testers, pressures and fluid samples calibrated to each other and to the seismic data can allow reservoir properties to be determined over a greater volume than the localized volume of investigation associated with a short-term flow test. Historically, proved reserves recorded using these methods have been validated by actual production levels. As at the end of 2008, BP had proved reserves in 20 fields in the deepwater Gulf of Mexico that had been initially booked prior to production flow testing. Of these fields, 18 are in production and two, Dorado and Great White, are expected to begin production in 2009. Six other fields are in the early stages of appraisal and development. cThe 2008 year-end marker prices used were Brent $36.55/bbl (2007 $96.02/bbl and 2006 $58.93/bbl) and Henry Hub $5.63/mmBtu (2007 $7.10/mmBtu and 2006 $5.52/mmBtu). d Proved reserves in the Prudhoe Bay field in Alaska include an estimated 54 million barrels on which a net profits royalty will be payable over the life of the field under the terms of the BP Prudhoe Bay Royalty Trust. e Includes 21 million barrels of crude oil in respect of the 30% minority interest in BP Trinidad and Tobago LLC. fIncludes 216 million barrels of crude oil in respect of the 6.80% minority interest in TNK-BP. g Includes 3,108 billion cubic feet of natural gas in respect of the 30% minority interest in BP Trinidad and Tobago LLC. h Includes 131 billion cubic feet of natural gas in respect of the 5.92% minority interest in TNK-BP. BP Annual Report and Accounts 2008 Performance review The following tables show BP’s production by major field for 2008, 2007 and 2006. Liquids Alaska Total Alaska Lower 48 onshorec Gulf of Mexico deepwaterc Total Gulf of Mexico Total US UK offshorec Total UK offshore Onshore Total UK Netherlandsc Norway Total Rest of Europe Angola Australia Azerbaijan Canadac Colombia Egypt Trinidad & Tobago Venezuelac Otherc Total Rest of World Total groupe Equity-accounted entities (BP share) Abu Dhabif Argentina – Pan American Energy Russia – TNK-BPc Otherc Total equity-accounted entities Field or Area Prudhoe Bayb Kuparuk Northstarb Milne Pointb Other Various Na Kikab Thunder Horseb Horn Mountainb Kingb Mars Mad Dogb Atlantisb Other ETAPd Foinavenb Magnusb Schiehallion/Loyalb Clairb Hardingb Andrewb Other Wytch Farmb Various Valhallb Draugen Ulab Other Dalia Girassol Greater Plutoniob Kizomba A Kizomba B Other Various Azeri-Chirag-Gunashlib Shah Denizb Variousb Variousb Various Variousb Various Various Various Various Various Various i w e v e r e c n a m r o f r e P % thousand barrels per day BP net share of productiona Interest 26.4 Various 98.6 Various Various Various Various 75.0 100.0 100.0 28.5 60.5 56.0 Various Various Various 85.0 Various 28.6 70.0 62.8 Various 67.8 Various 28.1 18.4 80.0 Various 16.7 16.7 50.0 26.7 26.7 Various 15.8 34.1 25.5 Various Various Various 100.0 Various Various Various Various Various Various 2008 72 48 22 27 28 197 97 29 24 18 23 28 31 42 49 244 538 27 26 18 18 13 11 7 37 157 16 173 – 14 13 8 8 43 34 6 69 15 16 62 29 97 8 9 24 57 37 4 42 509 1,263 210 70 826 32 1,138 2007 74 52 28 28 27 209 108 32 – 18 22 30 25 2 67 196 513 32 37 16 20 9 14 8 50 186 15 201 – 17 14 12 8 51 31 14 12 36 35 12 34 200 5 8 28 43 30 16 35 539 1,304 192 69 832 17 1,110 2006 71 57 38 31 27 224 125 41 – 23 28 19 17 – 70 198 547 49 37 30 26 7 17 7 62 235 18 253 1 21 15 14 10 61 – 17 – 54 58 4 34 145 – 8 34 42 40 26 28 490 1,351 163 69 876 16 1,124 aProduction excludes royalties due to others whether payable in cash or in kind where the royalty owner has a direct interest in the underlying production and the option and ability to make lifting and sales arrangements independently. bBP-operated. cIn 2008, BP concluded the migration of the Cerro Negro operations to an incorporated joint venture with PDVSA while retaining its equity position and TNK-BP disposed of some non-core interests. In 2007, BP divested its producing properties in the Netherlands and some producing properties in the US Lower 48 and Canada. TNK-BP disposed of its interests in several non-core properties. In 2006, BP divested its producing properties on the Outer Continental Shelf of the Gulf of Mexico and its interest in the Statfjord oil and gas field in the UK. Our interests in the Boqueron, Desarollo Zulia Occidental (DZO) and Jusepin projects in Venezuela were reduced following a decision by the Venezuelan government. TNK-BP disposed of its non-core interests in the Udmurtneft assets. dVolumes relate to six BP-operated fields within ETAP. BP has no interests in the remaining three ETAP fields, which are operated by Shell. eIncludes 19 net mboe/d of NGLs from processing plants in which BP has an interest (2007 54mboe/d and 2006 55mboe/d). fThe BP group holds interests, through associates, in onshore and offshore concessions in Abu Dhabi, expiring in 2014 and 2018 respectively. During the second quarter of 2007, we updated our reporting policy in Abu Dhabi to be consistent with general industry practice and as a result have started reporting production and reserves there gross of production taxes. 21 BP Annual Report and Accounts 2008 Performance review Natural gas Lower 48 onshoreb Total Lower 48 onshore Gulf of Mexico deepwaterb Gulf of Mexico Shelfb Total Gulf of Mexico Alaska Total US UK offshoreb Total UK Netherlandsb Norway Total Rest of Europe Australia Canadab China Egypt Indonesia Sharjah Azerbaijan Trinidad & Tobago Field or Area San Juanc Arkomac Hugotonc Tuscaloosac Wamsutterc Jonahc Other Na Kikac Marlinc Other Other Various Braes Brucec West Solec Marnockc Britannia Shearwater Armada Other P/18-2 Other Various Interest Various Various Various Various 66.6 Various Various 51.9 78.2 Various Various Various Various 37.0 100.0 62.1 9.0 27.5 18.2 Various 48.7 Various Various Various Variousc Yachengc Ha’pyc Other Sanga-Sanga (direct)c Otherc Sajaac Other Shah Denizc Kapokc Mahoganyc Amherstiac Parangc Immortellec Cassiac Otherc Various % million cubic feet per day BP net share of productiona 2008 682 240 91 65 136 221 451 1,886 62 46 122 – 230 41 2,157 75 65 51 24 30 17 16 481 759 – – 23 23 380 245 91 94 278 69 98 65 8 143 619 323 288 – 136 5 1,075 421 4,338 7,277 2007 694 204 123 78 120 173 458 1,850 50 13 205 1 269 55 2,174 69 72 55 25 37 19 16 475 768 – 3 26 29 376 255 85 108 206 75 81 83 9 73 984 454 155 – 153 25 663 466 4,251 7,222 2006 765 225 137 86 113 133 461 1,920 97 16 210 66 389 67 2,376 101 107 56 42 42 31 28 529 936 23 33 35 91 364 282 102 99 172 84 80 111 9 – 946 321 176 120 219 30 453 441 4,009 7,412 15.8 Various 34.3 50.0 Various 26.3 46.0 40.0 40.0 25.5 100.0 100.0 100.0 100.0 100.0 100.0 100.0 Various Otherb Total Rest of World Total groupd Equity-accounted entities (BP share) 362 Argentina – Pan American Energy Russia – TNK-BPb 544 Otherb 99 Total equity-accounted entitiesd 1,005 aProduction excludes royalties due to others whether payable in cash or in kind where the royalty owner has a direct interest in the underlying production and the option and ability to make lifting and sales arrangements independently. bIn 2008, BP concluded the migration of the Cerro Negro operations to an incorporated joint venture with PDVSA while retaining its equity position. In 2007, BP divested its producing properties in the Netherlands and some producing properties in the US Lower 48 and Canada. TNK-BP disposed of its interests in several non-core properties. In 2006, BP divested its producing properties on the Outer Continental Shelf of the Gulf of Mexico and its interest in the Statfjord oil and gas field in the UK. Our interests in the Boqueron, Desarollo Zulia Occidental (DZO) and Jusepin projects in Venezuela were reduced following a decision by the Venezuelan government. TNK-BP disposed of its non-core interests in the Udmurtneft assets. cBP-operated. dNatural gas production volumes exclude gas consumed in operations within the lease boundaries of the producing field, but the related reserves are included in the group’s reserves. 385 564 108 1,057 Various Various Various Various Various Various 379 451 91 921 22 BP Annual Report and Accounts 2008 Performance review United States 2008 liquids production at 538mb/d increased 4.9% from 2007, while natural gas production at 2,157mmcf/d decreased 0.8% compared with 2007. Crude oil production increased by 32mb/d, an increase of 8% from 2007, primarily driven by major projects in the Gulf of Mexico, partly offset by natural reservoir decline and the impact of hurricanes in the third quarter. The NGLs component of liquids production decreased by 7mb/d, driven mainly by plant turnarounds and operational issues resulting from the hurricanes in the third quarter. BP operates or has interests in NGL extraction plants with a processing capacity of 6.4bcf/d. These facilities are located in major production areas across North America, including Alberta, Canada, the US Rockies, the San Juan basin and the Gulf of Mexico. We also own or have an interest in fractionation plants (that separate the NGL into its component products) in Canada and the US. Gas production was 17mmcf/d lower because of natural reservoir decline and the impact of hurricanes, which was partly offset by production from shale acquisitions. Development expenditure in the US (excluding midstream) during 2008 was $4,914 million, compared with $3,861 million in 2007 and $3,579 million in 2006. The year-on-year increase is the result of various development projects in progress. Our activities within the US take place in three main areas: deepwater Gulf of Mexico, the Lower 48 states and Alaska. Significant events during 2008 within each of these are indicated below. Deepwater Gulf of Mexico Deepwater Gulf of Mexico is our largest area of growth in the US. In 2008, our deepwater Gulf of Mexico liquids production was 244mb/d and gas production was 40mboe/d. Significant events were: • On 14 June 2008, first oil was achieved at Thunder Horse (BP 75% and operator). Thunder Horse is the world’s largest semi-submersible production facility, and is located 150 miles south-east of New Orleans. It is designed to process 250,000 barrels of oil per day and 200 million cubic feet per day of natural gas. In 2008 four wells started up with production of around 200,000boe/d (gross) at the year-end, signalling the completion of commissioning. Production started up in the Thunder Horse North field in February 2009. • On 3 April 2008, BP announced an oil discovery at its Kodiak prospect (BP 63.75% and operator). The well, located in Mississippi Canyon block 771, approximately 60 miles south-east of the Louisiana Coast, is in about 1,500 metres of water. • In September 2008, Hurricanes Gustav and Ike resulted in most of the Gulf of Mexico’s oil production being shut down. There was minimal damage to most of BP’s platforms other than to the drilling derrick on the Mad Dog platform, located approximately 190 miles south of New Orleans. The production impact of both hurricanes was a reduction equivalent to approximately 24mboe/d for the year. • In October 2008, BP announced an oil discovery with its Freedom well (BP 25% and operator). The well, located in Mississippi Canyon Block 948, approximately 70 miles south-east of the Louisiana Coast, is in about 1,860 metres of water. It is believed that Freedom straddles Mississippi Canyon Block 948 and Mississippi Canyon Block 992. BP owns a 67.75% interest in Block 992. i w e v e r e c n a m r o f r e P Lower 48 states In the Lower 48 states (onshore), our 2008 natural gas production was 325mboe/d, which was up 2% compared with 2007. Liquids production was 97mb/d, down 10% compared with 2007. Total 2008 production, excluding the impacts from the 2008 hurricanes, was broadly flat compared with 2007. In 2008, we drilled approximately 540 wells as operator and continued to maintain a stable programme of drilling activity throughout the year. Production is derived from two main areas: • In the western basins (Colorado, New Mexico and Wyoming), our assets produced 224mboe/d in 2008. • In the Gulf Coast and mid-continental basins (Kansas, Louisiana, Oklahoma and Texas), our assets produced 198mboe/d in 2008. Significant events were: • In August 2008, BP acquired all Chesapeake Energy Corporation’s interest in approximately 90,000 net acres of leasehold and producing natural gas properties in the Arkoma basin Woodford Shale area for $1.75 billion. BP took over production operations on 1 November and retained three drilling rigs as part of the deal. • In September 2008, BP acquired a 25% non-operated interest in Chesapeake’s Fayetteville Shale assets for $1.9 billion comprising $1.1 billion in cash at closing and an $800 million commitment to fund Chesapeake’s 75% share of drilling and completion costs. $183 million of this commitment was met in 2008, with the balance expected to be paid by the end of 2009. The assets include approximately 135,000 net acres of leasehold. • In September 2008, in anticipation of Hurricane Gustav, operations and activity were shut down in the Pascagoula NGL plant, South Louisiana (Tuscaloosa field) and East Texas Exploration and Production operations. Also in September, Hurricane Ike resulted in every field location across South Louisiana, East Texas and the Permian Basin having production shut in. Four NGL plants, Pascagoula, Block 31, Crane and Midland, were shut down while other plants suffered production impacts due to widespread outages and disruptions in the midstream infrastructure. The impact of both hurricanes on production was a reduction equivalent to approximately 2mboe/d for the year. • In October 2008, BP sanctioned the Wamsutter Full Field Development plan (Phase ll). This builds on the operational and technological results of extensive field trials conducted during the past three years. Alaska In Alaska, BP net oil production in 2008 was 197mb/d, a decrease of 6% from 2007, due to normal decline in the large mature fields, partially offset by continued strong reservoir and well performance. BP operates 13 North Slope oil fields (including Prudhoe Bay, Northstar and Milne Point) and four North Slope pipelines and owns a significant interest in six other producing fields. In addition, two key aspects of BP’s business strategy in Alaska are commercializing the large undeveloped natural gas resource within our 26.4% interest in Prudhoe Bay and unlocking the large undeveloped heavy oil resources within existing North Slope fields through the application of advanced technology. Significant events in 2008 were: • In July 2008, BP announced the commencement of development activities for the Liberty oilfield, which is located on federal leases about six miles offshore in the Beaufort Sea, and east of the Prudhoe Bay oilfield. The planned development includes up to six ultra- extended reach wells, including four producers and two injectors. These wells are expected to be the longest horizontal wells ever drilled in the world, extending two miles deep and as far as eight miles horizontally, guided by 3-D seismic imagery. A specialized rig for drilling in the Arctic is being built for the project. Drilling is expected to start in 2010, from an existing satellite pad that is being expanded for 23 BP Annual Report and Accounts 2008 Performance review the project at the BP-operated Endicott oilfield. BP drilled the Liberty discovery well in 1997, and is the operator and sole owner of the field. • In August 2008, BP successfully tested Cold Heavy Oil Production with Sand (CHOPS) technology for the first time in Alaska, initiating a four-well production test programme during the period from August 2008 until the end of 2009. This first test at Milne Point S Pad brought oil and sand to the surface, where it was processed using temporary field facilities, combined with other light oil production, and shipped down the Trans-Alaska Pipeline System (TAPS). The CHOPS well tests are part of a multi-year programme to determine the technical and commercial feasibility of a large scale heavy oil development project on the North Slope using existing cold and thermal technologies. • During 2008, all four of the Prudhoe Bay Oil Transit Line segments that were targeted for replacement in response to the oil spills in the Prudhoe Bay field in March and August 2006 were completed and placed in service. United Kingdom We are the largest producer of oil, the second largest producer of gas and the largest overall producer of hydrocarbons in the UK. In 2008, total liquids production was 173mb/d, a 14% decrease on 2007, and gas production was 759mmcf/d, a 1% decrease on 2007. This decrease in production was driven by natural decline. Key aspects of our activities in the North Sea include a focus on in-field drilling and selected new field developments. Our development expenditure (excluding midstream) in the UK was $907 million in 2008, compared with $804 million in 2007 and $794 million in 2006. BP operates one NGL plant in the UK. Significant events in 2008 were: • In February 2008, BP and its partner, Marathon Petroleum West of Shetlands Ltd, announced a new oil discovery in UK Continental Shelf Block 204/23 (BP 72%), following drilling on the South West Foinaven prospect. BP, together with its partner, is evaluating the discovery and the potential for a two-well subsea development, tied back to the Foinaven Floating Production Storage and Offloading vessel (FPSO). • In May 2008, BP and its co-venturers made an oil discovery in North Sea Block 16/23s (BP 77.07%), named Kinnoull. The Kinnoull discovery and potential development options, including a subsea development tied back to BP’s Andrew field, are being evaluated. • During the third quarter, the first phase of offshore removal activity for the North West Hutton platform decommissioning programme was completed. This is BP’s biggest decommissioning project so far in the North Sea and has seen the removal of 22 separate topsides modules, which were then taken away by barges to the Able UK yard on Teesside for recycling and disposal. It is estimated that around 97% of the material recovered will be recycled and/or reused. • In December 2008, BP and BG Group agreed to exchange a package of North Sea assets. This is expected to strengthen BP’s position as a major operator in the Southern North Sea and to facilitate development activity and investment in the UK Continental Shelf. BP agreed to acquire BG’s 24.2% interest in the BP-operated Amethyst field and all its interests in the Easington Catchment Area (ECA) fields, including a 73.3% interest in the Mercury field, a 79% interest in the Neptune field, a 65% interest in the Minerva, Apollo and Artemis fields and BG’s 30.8% interest in the BP-operated Whittle and Wollaston fields. BG Group agreed to acquire BP’s interest and operatorship in the Everest (BP 21.1%) and Lomond (BP 22.2%) fields, BP’s 18.2% interest in the BG-operated Armada field and 32% of the Chevron-operated Erskine field (BP will retain 18% equity in Erskine). The deal is subject to government, regulatory and partner approvals and completion is expected in the second quarter of 2009. Rest of Europe Our activities in the Rest of Europe are now centred on Norway. Until February 2007, we also held exploration and production and gas infrastructure interests in the Netherlands. Development expenditure (excluding midstream) in the Rest of Europe was $695 million, compared with $443 million in 2007 and $214 million in 2006. In 2008, our total production in Norway was 47mboe/d, a 16% decrease on 2007. This decrease in production was driven by natural decline. In Norway, progress continued as planned on the Skarv and Valhall Redevelopment projects. Rest of World Development expenditure in Rest of World (excluding midstream) was $5,251 million in 2008, compared with $5,045 million in 2007 and $4,522 million in 2006. Rest of Americas Canada • In Canada, our natural gas and liquids production was 51mboe/d in 2008, a decrease of 1% compared with 2007. The year-on-year decrease in production is mainly due to natural field decline. • On 31 March 2008, BP and Husky Energy Inc. (Husky) completed a deal to create an integrated North American oil sands business by means of two separate 50:50 joint ventures, BP-Husky Refinery LLC, operated by BP, and the Sunrise Oil Sands Partnership (SOSP), operated by Husky. BP’s capital expenditure in respect of the creation of SOSP amounted to $2.8 billion. • In June 2008, BP successfully acquired three of five exploration licences on offer in the Canadian section of the Beaufort Sea through a Call for Bids process issued by The Department of Indian and Northern Affairs of Canada. The leases awarded to BP cover about 611,000 hectares of the Beaufort seabed, north of Tuktoyaktuk, Northwest Territories. These are in addition to the 15 significant discovery licences that BP currently holds in the Beaufort Sea, and two exploration licences currently in moratorium. The term for exploration licences issued from this Call for Bids is nine years consisting of two consecutive periods. There is a $300 million work obligation associated with acquiring these exploration licences. Trinidad • In Trinidad, natural gas production volumes increased from 420mboe/d in 2007 to 422mboe/d in 2008. The increase was a result of improved operating efficiency on the Atlantic LNG Trains combined with increased demand from the domestic market and full ramp-up of two new fields, Mango and Cashima. Liquids production increased by 7mb/d (23%) to 37mb/d in 2008 from 30mb/d in 2007 as a result of an increase in NGLs associated with higher throughput for the Trains, increased crude and condensate from the two new fields and liquid optimization activities. • In December 2008, a new oil export pipeline was commissioned to transport liquids from offshore fields to onshore delivery points. BP owns 100% of the capacity of the pipeline. • Progress on Savonette, BP’s next field development in Trinidad, continued throughout the year and first gas is expected to be delivered in 2009. • In 2008, the Day Away from Work Case injury frequency (per 200,000 work hours) has been reduced from 0.12 in 2003 to zero in 2008 and the recordable injury frequency has more than halved in the same period. This has come about through the development and implementation of a comprehensive multi-year safety plan, focused on coaching safety leaders, workforce communication, standard implementation and continuous learning. 24 BP Annual Report and Accounts 2008 Performance review Venezuela • In Venezuela, despite the transition since 2006 of BP’s interests to incorporated joint venture (IJV) entities with the state oil company Petróleos de Venezuela, S.A. (PDVSA), and OPEC quotas, 2008 liquids production increased by 3mb/d compared with 2007. • In the second quarter of 2008, BP concluded the migration of the Cerro Negro operations to an IJV with PDVSA while retaining the same equity interest. Colombia • In Colombia, BP’s net production averaged 38mboe/d. The reduction of 8mboe/d compared with 2007 is mainly due to natural field decline and lower gas transfers from Recetor (BP 50%) to Santiago de las Atalayas (BP 31%). The main part of the production comes from the Cusiana, Cupiagua and Cupiagua South fields, with increasing new production from the Cupiagua extension into the Recetor Association Contract and the Floreña and Pauto fields in the Piedemonte Association Contract. • On 20 June 2008, the National Hydrocarbon Agency gave its official approval for equalization of RC4 and RC5 Caribbean offshore blocks with partners Ecopetrol and Petrobras, with the main objective of simplifying partner relations and agreements. New equity interests resulting from this approval are BP 40.6%, Ecopetrol 32% and Petrobras 27.4%. Seismic operations for these two blocks were completed successfully. Processing and interpretation of the data to determine potential prospects for offshore field developments and drilling operations is under way and is expected to be completed in 2009. Argentina, Bolivia and Chile • In Argentina, Bolivia and Chile, activity is conducted through Pan American Energy (PAE), a joint venture company in which BP holds a 60% interest, and which is accounted for by the equity method. In 2008, total PAE gross production of 250mboe/d represented an increase of 3% compared with 2007. Most of this production comes from the Cerro Dragón field in the provinces of Chubut and Santa Cruz. The field is now producing at its highest level since inception of the licence area in 1958. PAE also has other assets producing gas and liquids in the Argentine provinces of Salta, Neuguén and Tierra del Fuego, and in Bolivia, as well as interests in exploration areas, pipelines, electricity generation plants and other midstream infrastructure assets, primarily in Argentina. • In 2007 and early 2008, PAE was granted extensions of the two principal Cerro Dragón licence areas by the provinces of Chubut and Santa Cruz in exchange for material long-term investment commitments in exploration and production, and for long-term commitments to local community and supplier development. The licence expiry dates have been extended from 2017 to 2027, with further extension potential to 2047. • In May 2008, following its decree of 2006 requiring all private owners of shares in Bolivian oil and gas companies to transfer back a majority shareholding to the Bolivian national oil company Yacimientos Petrolíferos Fiscales Bolivianos (YPFB), the Bolivian government issued a second decree requiring this transfer to be made with immediate effect. PAE, as the majority shareholder of Empresa Petrolera Chaco S.A. (Chaco), a company created in the 1990s, was affected by these decrees. PAE was required to sell approximately 1% of the share capital of Chaco to YPFB, such that YPFB would own 50% plus one share of the total. From May 2008 and into January 2009, PAE was in discussions with the government regarding the decrees and options for implementation. However, on 23 January 2009, the president of Bolivia issued a decree nationalizing PAE’s shareholding in Chaco. PAE is currently evaluating all options to preserve the value of its shareholding. • On 26 November 2008, the Argentine government issued a decree creating a new regime called Petróleo PLUS. This regime is aimed at increasing oil production and reserves. The detailed rules of Petróleo PLUS were issued on 4 December 2008. On 15 December 2008, PAE made its first applications under Petróleo PLUS for fiscal credit certificates with the Secretary of Energy. Africa Algeria • BP, through its joint operatorships of the In Salah Gas (33.15%) and In Amenas (12.5%) projects, supplied 33mboe/d (BP net) to markets in Algeria and southern Europe during 2008. This is a decrease of 15% from 39mboe/d in 2007 as a result of lower gross volumes at In Salah due to planned turnaround maintenance and the impact of lower entitlement in our PSAs driven by higher prices, partly offset by improved operating efficiency at In Amenas. Further, BP, through its joint operatorship of the Rhourde El Baguel field, received 4.4mboe/d (BP net) of oil in 2008. • Sonatrach and BP announced an exploration success with the Tin Zaouatene-1 (TZN-1) discovery in the Bourarhet Sud Blocks 230 and 231. On 24 September 2008, BP moved into the second prospecting period, which lasts for a further two years. Angola • In Angola, BP net production in 2008 was 202mboe/d, an increase of 45% from 2007 due to the start-up of the Mondo, Saxi and Batuque (Kizomba C, BP 26.67%) fields, and the ramp-up of the Greater Plutonio field (BP 50% and operator), more than offsetting the impact of lower entitlement in our PSAs driven by higher prices in existing fields. We expect to have invested over $15 billion in our Angolan business by 2010. • In January 2008, the Kizomba C project (BP 26.67%) came onstream with the start-up of the Mondo field, followed by first production from the Saxi and Batuque fields in July 2008. The Kizomba C development is located approximately 140 kilometres off the coast of Angola in water depths of nearly 800 metres. • In June 2008, the Plutão, Saturno, Vênus and Marte (PSVM) project was authorized by Sonangol. The programme is expected to comprise four fields that lie in the north east sector of Block 31 (BP 26.67% and operator), in a water depth of approximately 2,000 metres, some 400 kilometres north west of Luanda. Contracts have been awarded and construction work started during 2008. • During the third quarter of 2008, production was shut down at the • Greater Plutonio FPSO located in deepwater Block 18 (BP 50% and operator), offshore Angola, due to operational issues. Production was restarted on 12 October 2008. The adverse impact on full-year production was 14mb/d. In the ultra deepwater Block 31 (BP 26.67% and operator), there was further exploration success with the Portia and Dione wells, bringing the total successes for Block 31 to 16. The Portia well is located in a water depth of approximately 2,000 metres, some 386 kilometres north-west of Luanda. The Dione well is located in a water depth of approximately 1,700 metres, some 390 kilometres north-west of Luanda. i w e v e r e c n a m r o f r e P 25 BP Annual Report and Accounts 2008 Performance review Egypt • In Egypt, BP net production was 121mboe/d, an increase of 25% • from 97mboe/d in 2007. This increase was mainly due to the start-up of two new fields, Saqqara and Taurt, and the full-year impact from Denise, which started up at the end of 2007. In January 2008, BP completed drilling a successful exploration well, Satis-1, in the North El Burg offshore concession (BP 50% and operator). The Satis-1 well was drilled in approximately 90 metres of water, some 50 kilometres offshore, and is in the Oligocene formation. • In January 2008, an oil discovery was announced in the North Shadwan (BP 50% and operator) concession located in the southern part of the Gulf of Suez. The NS394-1A exploration well was drilled in shallow water seven kilometres from the Hilal field. This discovery is the first new oil discovery in the south-eastern area of the Gulf of Suez in more than 10 years and is also the first discovery drilled by BP which has been facilitated by modern, high-quality, ocean-bottom cable (OBC) seismic data. • On 15 May 2008, oil production from the Saqqara field (BP 100%) started. The Saqqara field, operated by the Gulf of Suez Petroleum Company (GUPCO), a joint venture operating company between BP and the Eygptian General Petroleum Corporation (EGPC), is located 13 kilometres offshore in the central Gulf of Suez. Natural gas production commenced on 26 July 2008. The Saqqara development includes a jacket and unmanned topsides, three wells, and a 13-kilometre pipeline to a new dedicated onshore separation and gas processing plant at Ras Shukeir on the Gulf of Suez. Local contractors were used for design, onshore construction and offshore fabrication work. • In July 2008, natural gas production began from the Taurt field (BP 50%). The Taurt field is located between the Ras El Bar Concession (BP 50% and operator) and the Temsah Concession (BP 50%), 70 kilometres offshore to the north-east of Port Said, East Nile Delta. Gross Taurt production ramped up to 230mmcf/d in August. The Taurt development includes a Subsea Production System (SPS), two subsea wells, and a 70-kilometre pipeline and control umbilical back to upgraded facilities at the existing West Harbor processing plant. Taurt is BP’s first subsea development in Egypt and also the first of a planned programme of future subsea developments. Local contractors were used for onshore design/modifications and subsea structure construction. Libya • In Libya, BP and its partner, the Libyan Investment Corporation (LIC) commenced seismic operations on the acreage covered under the exploration and production-sharing agreement ratified in December 2007. In September 2008, the offshore seismic acquisition survey commenced in the Mediterranean waters of Libya's Gulf of Sirt. At the end of 2008, the onshore seismic operations commenced in the northern Ghadames block. Asia Pacific Indonesia • BP produces crude oil in, and supplies natural gas to, the island of Java through its holding in the Offshore Northwest Java PSA (BP 46%). In 2008, BP net production was 22mboe/d, an increase of 18% from 18.6mboe/d in 2007 as a result of improved operating efficiencies and increased gas demand in Java. • BP is operator of the Tangguh LNG project (BP 37.2%), which includes offshore platforms, pipelines and an LNG plant with two production trains with a total capacity of 7.6 million tonnes per annum (mtpa). In May 2008, gas was introduced from one of the two offshore platforms into the Onshore Receiving Facility (ORF). First commercial delivery of LNG is expected in the second quarter of 2009. • BP has a 50% interest in Virginia Indonesia Company LLC (Vico), the operator of the Sanga-Sanga PSA (BP 38%) supplying feedgas to Indonesia’s largest LNG export facility, the Bontang LNG plant in Kalimantan. Vietnam • BP participates in one of the country’s largest foreign investment projects, the Nam Con Son gas project. This is an integrated resource and infrastructure project, which includes offshore gas production, a pipeline transportation system and a power plant. At midnight on 31 December 2007, the operation of the Nam Con Son Pipeline (BP 32.67%) transferred from BP to PetroVietnam (PVN). In September 2008, capacity of the Nam Con Son Pipeline was increased by 30% to allow for additional current and future expected volumes. • In 2008, BP net natural gas production was 61mmcf/d, a decrease of 26% from 82mmcf/d in 2007, primarily due to lower PSA entitlements. Gas sales from Block 6.1 (BP 35% and operator) are made under a long-term agreement for electricity generation at the Phu My 3 power plant (BP 33.3%). • BP has determined that its licences in Blocks 5.2 (BP 55.9% and operator) and 5.3 (BP 75% and operator) do not fit within its current portfolio and has decided to withdraw from them. BP is currently in active discussions with PVN, the Vietnamese government and joint venture partners to progress this withdrawal. China • In 2008, natural gas production was 91mmcf/d BP net, an increase of 7% compared with 2007. This increase was mainly due to increased gas demand. A new development project was sanctioned in late 2008 to help meet the expected increase in demand in 2010 and beyond. • The Yacheng offshore gas field (BP 34.3%) supplies Castle Peak Power Company with feedgas for up to 70% of Hong Kong’s gas-fired electricity generation. Additional gas is also sold to the Fuel & Chemical Company of Hainan. • In March 2007, the National People’s Congress reduced the rate of corporation tax from 33% to 25% with effect from 1 January 2008. Australia • BP is one of seven partners in the North West Shelf (NWS) venture. Six partners (including BP) hold an equal 16.67% interest in the infrastructure and oil reserves and an equal 15.78% interest in the gas and condensate reserves, with a seventh partner owning the remaining 5.32% of gas and condensate reserves. The NWS venture is currently the principal supplier to the domestic market in Western Australia and one of the largest LNG export projects in Asia with five LNG Trains in operation. • In 2008, BP net gas production was 380mmcf/d, an increase of 1% from 2007 primarily due to increased domestic gas demand in Western Australia and the startup of NWS Train 5 and the Angel platform in the third quarter. BP net liquids production was 29mb/d, a decrease of 15% from 2007 due to natural field decline. • In March 2008, the North Rankin 2 (NR2) project was sanctioned. This links a second platform via a 100-metre bridge to the existing North Rankin A (NRA) platform. On completion, NRA and NR2 platforms are expected to be operated as a single integrated facility and to recover low pressure gas from the North Rankin and Perseus gas fields. In September 2008, a fifth LNG train was successfully completed and commenced production at the Karratha gas plant. Train 5 increases NWS total annual production capacity from 11.9 to 16.3 million tonnes. • • The Angel platform (BP 16.67%) was successfully commissioned and started producing gas during October 2008. Angel has a gross production capacity of 800 million standard cubic feet of raw gas and up to 50,000 barrels of condensate per day. 26 BP Annual Report and Accounts 2008 Performance review Russia TNK-BP • TNK-BP, a joint venture between BP (50%) and Alfa Group and Access-Renova (AAR) (50%), is an integrated oil company operating in Russia and the Ukraine. The TNK-BP group’s major assets are held in OAO TNK-BP Holding. Other assets include the BP-branded retail sites in Moscow and the Moscow region and interests in OAO Rusia Petroleum and the OAO Slavneft group. The workforce comprises more than 60,000 people. • BP’s investment in TNK-BP is held by the Exploration and Production segment and the results of TNK-BP are accounted for under the equity method in this segment. • TNK-BP has proved reserves of 7.1 billion barrels of oil equivalent (including its 49.9% equity share of Slavneft), of which 5 billion are developed. In 2008, TNK-BP’s average liquids production was 1.65mmb/d, a decrease of just under 1% compared with 2007. The production base is largely centred in West Siberia (Samotlor, Nyagan and Megion), which contributes about 1.2mmboe/d, together with Volga Urals (Orenburg) contributing some 0.4mmboe/d. About 40% of total oil production is currently exported as crude oil and 20% as refined product. • Downstream, TNK-BP has interests in six refineries in Russia and the Ukraine (including Ryazan and Lisichansk and Slavneft’s Yaroslavl refinery), with throughput of approximately 34 million tonnes per year. During 2008, TNK-BP purchased additional retail and other downstream assets in Russia and the Ukraine from a number of small companies. TNK-BP supplies approximately 1,400 branded filling stations in Russia and the Ukraine and, with the additional sites, is expected to have more than 20% market share of the Moscow retail market. • On 9 January 2009, BP reached final agreement on amendments to the shareholder agreement with its Russian partners in TNK-BP. The revised agreement is aimed at improving the balance of interests between the company's 50:50 owners, BP and Alfa Access-Renova (AAR), and focusing the business more explicitly on value growth. • The former evenly-balanced main board structure has been replaced by one with four representatives each from BP and AAR, plus three independent directors. Unanimous board support is required for certain matters including substantial acquisitions, divestments and contracts, and projects outside the business plan, together with approval of key changes to the TNK-BP group’s financial framework and of related party transactions. A number of other matters will be decided by approval of a majority of the board, so that the independent directors will have the ability to decide in the event of disagreement between the shareholder representatives on the board. BP will continue to nominate the chief executive, subject to main board approval, and AAR will continue to appoint the chairman. The three independent directors appointed to the restructured main board are Gerhard Schroeder, former chancellor of the Federal Republic of Germany, James Leng, former chairman of Corus Steel and Alexander Shokhin, president of the Russian Union of Industrialists and Entrepreneurs. In addition, significant TNK-BP subsidiaries will have directors appointed by BP and AAR on their boards. Our investment in TNK-BP will be reclassified from a jointly controlled entity to an associate with effect from 9 January 2009. • The parties have confirmed their agreement to a potential future sale of up to 20% of a subsidiary of TNK-BP through an initial public offering (IPO) at an appropriate future point, subject to certain conditions and the consent of the Russian authorities. • In 2007, BP and TNK-BP signed heads of terms to create strategic business alliances with OAO Gazprom. Under the terms of this agreement, TNK-BP agreed to sell to Gazprom its stake in OAO Rusia Petroleum, the company that owns the licence for the Kovykta gas condensate field in East Siberia and its interest in East Siberia Gas Company. Discussions to conclude this disposal continue. Sakhalin • BP and its Russian partner Rosneft agreed two Shareholder and Operating Agreements (SOAs) on 28 April 2008, recognizing BP as a 49% equity interest holder with Rosneft holding the remaining 51% interest in the two newly formed joint venture companies, Vostok Shmidt Neftegaz and Zapad Shmidt Neftegaz. BP also continues to hold a 49% equity interest in its third joint venture company at Sakhalin, Elvary Neftegaz, with Rosneft holding the remaining 51%. During the year, each of the three joint ventures held Geological and Geophysical Studies licences with the Russian Ministry of Natural Resources (MNR) to perform exploration seismic and drilling operations in these licence areas off the east coast of Russia. To date, 3D seismic data has been acquired in relation to all three licences. In the Elvary Neftegaz licence additional commitment 2D seismic data was acquired during 2008 in preparation for future drilling commitments. Exploration wells have been drilled in the Zapad-Shmidt Neftegaz and Elvary Neftegaz licences. In 2008, it was agreed by both shareholders to allow the Zapad-Shmidt Neftegaz licence to lapse at the end of its normal term. Other Azerbaijan • In Azerbaijan, BP’s net production in 2008 was 130mboe/d, a net decrease of 40% from 2007. The primary elements of this were the effects of significantly higher prices resulting in a change in profit oil entitlement in line with the terms of the PSA and reduced cost oil entitlement, partially offset by an increase following the start-up of the Deepwater Gunashli (DWG) platform, the ramping up of three Azeri oil-producing platforms and the Shah Deniz condensate gas platform commencing production in 2007. • The DWG platform complex successfully started oil production on schedule on 20 April 2008. DWG completes the third phase of development of the Azeri-Chirag-Gunashli (ACG) field (BP 34.1% and operator) in the Azerbaijan sector of the Caspian Sea. The DWG complex is located in a water depth of 175 metres on the east side of the Gunashli field. The complex comprises two platforms – a drilling and production platform linked by a bridge to a water injection and gas compression platform. • On 17 September 2008, a subsurface gas release occurred below the Central Azeri platform. As a precautionary measure, all personnel on the platform were safely transferred onshore. The Central Azeri platform was shut down until 19 December 2008, when following comprehensive investigation and recovery work, BP began to resume oil and gas production. Central Azeri processes oil and gas from West Azeri, and West Azeri was also temporarily shut down and then restored to normal operations on 9 October 2008. Operations of the Compressor and Water Injection Platform (CWP), which is linked by a bridge to Central Azeri, and the provision of power and injection water across three Azeri field platforms were re-established on 12 October 2008. Middle East and South Asia • Production in the Middle East consists principally of the production entitlement of associates in Abu Dhabi, where we have equity interests of 9.5% and 14.7% in onshore and offshore concessions respectively. In 2008, BP’s share of production in Abu Dhabi was 210mb/d, up 9% from 2007 as a result of higher overall OPEC demand despite cuts implemented in the fourth quarter of 2008. • In July 2008, BP Sharjah signed a farm-out agreement with RAK Petroleum for the East Sajaa concession. Drilling of the first exploration well is expected in 2009. • In Block 61 in Oman, the challenges posed by the world’s largest onshore azimuth 3D seismic survey led the BP Oman team to use a ground-breaking new technique known as Distance Separated Simultaneous Sweeping (DS3). This technique allows the acquisition 27 i w e v e r e c n a m r o f r e P BP Annual Report and Accounts 2008 Performance review in a single day of as much seismic data as previously obtained in a week. The invention of DS3 along with some other innovations allowed an efficient and cost effective survey of the Block to be completed within a six-month period. The first appraisal well was spudded in September 2008. In Pakistan, BP’s net oil production in 2008 was 8.2mboe/d, an increase of 30% from 2007, and BP’s net gas production was 28.2mboe/d, an increase of 34% from 2007 as a result of the full-year impact of BP increasing its equity in the onshore Badin asset in 2007 to 84%. In Pakistan, BP received an 18-month extension until January 2010 in Phase 1 of the initial term of Exploration Licences in respect of the offshore Indus PSA. • • • On 30 December 2008, BP signed completion documents with Orient Petroleum International Inc., to acquire a 51.3% working interest, along with operatorship, in two joint venture blocks, Mirpurkhas and Khipro, located in the southern Sindh province of Pakistan. • On 22 December 2008, BP signed a production-sharing contract with the Indian government for a deepwater exploration block in the Krishna-Godavari Basin, offshore eastern India, which was awarded under the New Exploration Licensing Policy Seventh round. BP is the designated operator with a 30% working interest in the block. Reliance Industries Limited holds the remaining 70% working interest. Midstream activities Oil and natural gas transportation The group has direct or indirect interests in certain crude oil transportation systems, the principal ones being the Trans-Alaska Pipeline System (TAPS) in the US, the Forties Pipelines System (FPS) in the UK sector of the North Sea and the Baku-Tbilisi-Ceyhan (BTC) oil pipeline. In addition to these, we also operate the Central Area Transmission System (CATS) for natural gas in the UK sector of the North Sea, the Western Export Route Pipeline between Azerbaijan and the Black Sea coast of Georgia (as operator of AIOC), and, as technical operator, the South Caucasus Pipeline (SCP) (BP 25.5%), which takes gas from Azerbaijan through Georgia to the Turkish border. BP’s onshore US crude oil and product pipelines and related transportation assets are included under Refining and Marketing (see page 31). Assets and activity during 2008 included: Alaska • BP owns a 46.9% interest in TAPS, with the balance owned by four other companies. Production transported by TAPS from Alaska North Slope fields averaged 700mb/d during 2008. • Work on the strategic reconfiguration project to upgrade and automate four TAPS pump stations continued to progress in 2008. This project is installing electrically-driven pumps at four critical pump stations, along with increased automation and upgraded control systems. Two of the reconfigured pump stations came online during 2007. The remaining two reconfigured pump stations are expected to come online sequentially, one in 2009 and one in 2010. • On 8 April 2008, BP and ConocoPhillips announced the formation of a joint venture company called Denali – The Alaska Gas Pipeline. The joint venture has begun work on an Alaska gas pipeline project consisting of a gas treatment plant on Alaska’s North Slope, a large diameter pipeline that is intended to pass through Alaska into Canada, and should it be required, a large-diameter pipeline from Alberta to the Lower 48 United States. When completed, the pipeline is expected to move approximately 4 billion cubic feet of natural gas per day to market. The joint venture plans to spend up to $600 million prior to reaching the first major project milestone, an ’open season’, before the end of 2010. An open season is a process during which 28 the joint venture seeks customers to make firm, long-term transportation commitments to the project. Should the open season be successful, the joint venture will seek certification from the Federal Energy Regulatory Commission (FERC) of the US and the National Energy Board (NEB) of Canada to move forward with project construction. The new joint venture company will manage the project, and will own and operate the pipeline when completed. BP and ConocoPhillips may consider other equity partners, including pipeline companies, who can add value to the project and help manage the risks involved. On 22 May 2008, the office of the Governor of Alaska announced that it would be supporting an alternative gas pipeline project proposed by TransCanada Alaska Company in response to the State of Alaska’s request for bids under the Alaska Gas Inducement Act (AGIA) in 2007. BP’s commitment to move forward with the Denali project is independent of any decisions made or inducement offered by the State under the AGIA process and BP believes that the Denali project offers the best opportunity for a successful Alaska gas pipeline project. • Alaska state courts issued two noteworthy rulings in 2008, related to challenges filed by in-state refiners against BP and the other TAPS carriers, regarding intrastate tariffs charged for shipping oil through TAPS during the period from 1997 through 2003. These rulings are related to long-standing challenges that were originally filed with the Regulatory Commission of Alaska (RCA). In 2002, the RCA issued Order 151, which determined that TAPS transportation rates charged from the beginning of 1997 were excessive, and that refunds should be paid. BP and the other TAPS carriers appealed the RCA’s 2002 ruling in the State of Alaska court system. In the interim, the RCA issued Order 34, which imposed intrastate tariff rates consistent with Order 151, effective from 1 July 2003 forward. On 15 February 2008, the Alaska Supreme Court affirmed the determination in RCA’s Order 151, and on 26 February 2008, the Alaska Superior Court affirmed the RCA’s Order 34, and imposed the application of Order 151 to intrastate tariff rates charged from 2001 forward. BP and the other TAPS carriers decided not to appeal these matters any further in the courts, and on 25 March 2008, BP Pipelines Alaska paid refunds to intrastate shippers totalling $71 million covering the period 1997 through 2000. During the third quarter of 2008, BP Pipelines Alaska paid out an additional $75 million to intrastate shippers covering the period from 2001 through 30 June 2003. In 2008, intrastate transport made up approximately 13.7% of total TAPS throughput. • Tariffs for interstate transportation of oil through TAPS are calculated using the TAPS Tariff Settlement Methodology (TSM), which is defined in an agreement entered into with the State of Alaska in 1985. The TSM was also accepted at that time by the Regulatory Commission of Alaska (RCA) and the Federal Energy Regulatory Commission (FERC). Since then, Anadarko, Tesoro, and the State of Alaska have challenged the interstate tariffs charged by BP and the other TAPS carriers in the years 2005, 2006 and 2007 with the FERC. Anadarko and the State of Alaska have also challenged the 2008 tariffs. In 2006, the FERC consolidated the proceedings related to the years 2005-2006, and determined that the challenges pertaining to 2007 tariff rates would be held in abeyance until a decision was issued in the proceedings on 2005 and 2006 tariff rates. The FERC’s hearings on the consolidated proceedings commenced in October 2006 and concluded in January 2007. On 17 May 2007, a FERC Administrative Law Judge (ALJ) issued an initial decision on 2005 and 2006 tariff rates that was adverse to BP and the other TAPS carriers, and established a floor of $3.01/bbl for the 2005-2006 period, as this was the last uncontested tariff rate. On 20 June 2008, the FERC issued a ruling on the 2005-2006 period, which substantially affirmed the initial ruling by the ALJ, and ordered the TAPS carriers to pay refunds to shippers. On 20 November 2008, the FERC affirmed its 20 June 2008 ruling in response to applications for rehearing filed by BP and the other TAPS carriers. Accordingly, in December 2008 BP as BP Annual Report and Accounts 2008 Performance review a TAPS carrier paid third party shippers tariff refunds of $52 million; and BP as a TAPS shipper received tariff refunds from third party carriers of $27 million. The FERC’s 20 November 2008 ruling also concluded that a unified tariff rate should be established for interstate transportation through TAPS, and the TAPS carriers were ordered to implement a revenue pooling methodology in the TAPS Operating Agreement. Some TAPS carriers other than BP have filed legal challenges to this aspect of the FERC’s 20 November 2008 ruling, which are still pending. As of the end of 2008, there have been no proceedings in the challenges to BP’s and the other TAPS carriers’ 2007 and 2008 tariff rates. In 2008, interstate transport made up approximately 86% of total TAPS throughput. North Sea • FPS (BP 100%) is an integrated oil and NGLs transportation and processing system that handles production from more than 50 fields in the Central North Sea. The system has a capacity of more than one million barrels per day, with average throughput in 2008 of 662mb/d. • BP operates and has a 29.5% interest in CATS, a 400-kilometre natural gas pipeline system in the central UK sector of the North Sea. The pipeline has a transportation capacity of 1,700mmcf/d to a natural gas terminal at Teesside in north-east England. CATS offers natural gas transportation and processing services. In 2008, throughput was 836mmcf/d (gross), 247mmcf/d (net). • BP operates the Dimlington/Easington gas processing terminal (BP 100%) on Humberside and the Sullom Voe oil and gas terminal in Shetland. Asia (including the former Soviet Union) • BP, as operator, manages and holds a 30.1% interest in the BTC oil pipeline. The 1,768-kilometre pipeline transports oil from the BP-operated ACG oil field in the Caspian Sea to the eastern Mediterranean port of Ceyhan. The Turkish section of the pipeline is operated by Botas. • On 6 August 2008, the Baku-Tbilisi-Ceyhan (BTC) pipeline was shut down for 14 days as a result of a fire that occurred at Block Valve 30, located in the Erzincan province in Eastern Turkey. The pipeline restarted on 20 August 2008. The Azeri-Chirag-Gunashli (ACG) and Shah Deniz (SD) fields reduced offshore production to manage stock levels at the Sangachal Terminal. Some exports were maintained via the Northern Route Export Pipeline (NREP) and by rail through Georgia. • BP is technical operator of, and holds a 25.5% interest in, the 693-kilometre South Caucasus Pipeline (SCP), which takes gas from Azerbaijan through Georgia to the Turkish border. During August 2008, the South Caucasus gas and Western Route oil export pipelines were shut down for a short period as a precautionary measure during a period of military activity in the region. • In February 2008, BP, on behalf of AIOC, handed over operatorship of the Azerbaijani section of the NREP between Azerbaijan and Russia to the State Oil Company of Azerbaijan Republic (SOCAR). • Through the LukArco joint venture, BP holds a 5.75% interest in the Caspian Pipeline Consortium (CPC) pipeline and a 2.3% interest in Tengizchevroil (TCO). CPC is a 1,510-kilometre pipeline from Kazakhstan to the Russian port of Novorossiysk and carries crude oil from a number of Kazakh fields, including Tengiz. In addition to our interest in LukArco, we hold a separate 0.87% interest in CPC through a 49% holding in Kazakhstan Pipeline Ventures (KPV). In 2008, CPC total throughput reached 32.2 million tonnes. During 2008, the majority of shareholders in CPC agreed on the commercial terms for expansion of CPC to 67 million tonnes. These terms strongly favour the upstream, and as BP has no additional volumes of Kazakh crude to ship in an expanded CPC, BP has been unable to support these new commercial terms. In order not to delay the expansion of CPC, BP has obtained the agreement of its KPV joint venture partners and CPC shareholders to dispose of its interest in KPV and is seeking the agreement of its joint venture partners, CPC shareholders and TCO partners to dispose of its interest in LukArco. • On 25 September 2008, Chevron announced that Tengizchevroil had completed a major expansion at the Tengiz field in Kazakhstan in which BP holds a 2.3% interest through its joint venture with LukArco. The completion of the expansion brings daily crude capacity of the field to 540mb/d. Liquefied natural gas Our LNG activities are focused on building competitively advantaged liquefaction projects, establishing diversified market positions to create maximum value for our upstream natural gas resources and capturing third party LNG supply to complement our equity flows. Assets and activity during 2008 included: • In Trinidad, BP’s net share of the capacity of Atlantic LNG Trains 1, 2, 3 and 4 is 6 million tonnes of LNG per year (292 billion cubic feet equivalent re-gasified), with the Atlantic LNG Train 4 (BP 37.8%) designed to produce 5.2 million tonnes (253 billion cubic feet) per year of LNG. All of the LNG from Atlantic Train 1 and most of the LNG from Trains 2 and 3 is sold to third parties in the US and Spain under long-term contracts. All of BP’s LNG entitlement from Atlantic LNG Train 4 and some of its LNG entitlement from Trains 2 and 3 is marketed via BP's LNG marketing and trading business to a variety of markets including the US, the Dominican Republic, Spain, the UK and the Far East. • We have a 10% equity shareholding in the Abu Dhabi Gas Liquefaction Company, which in 2008 supplied 5.8 million tonnes (298.746mmcf) of LNG, up 3% from 2007. • BP has a 13.6% share in the Angola LNG project, which is expected to receive approximately one billion cubic feet of associated gas per day from offshore producing blocks and to produce 5.2 million tonnes gross per year of LNG, as well as related gas liquids products. With the completion of the necessary agreements and the approval of the Angolan government, the project investors have authorized Angola LNG Limited to proceed with the construction and implementation of the project. • In Indonesia, BP is involved in two of the three LNG centres in the country. BP participates in Indonesia’s LNG exports through its holdings in the Sanga-Sanga PSA (BP 38%). Sanga-Sanga currently delivers around 13% of the total gas feed to Bontang, one of the world’s largest LNG plants. The Bontang plant produced 18.4 million tonnes of LNG in 2008. • Also in Indonesia, BP has interests in the Tangguh LNG joint venture (BP 37.2% and operator) and in each of the Wiriagar (BP 38% and operator), Berau (BP 48% and operator) and Muturi (BP 1%) PSAs in north-west Papua that are expected to supply feed gas to the Tangguh LNG plant. During 2008, construction continued on two LNG trains and the offshore facilities, with commercial delivery planned in the second quarter of 2009. Tangguh will be the third LNG centre in Indonesia, with an expected initial capacity of 7.6 million tonnes of LNG (388,000mmcf) per year. Tangguh has signed LNG sales contracts for delivery to China, Korea and North America. • In Australia, we are one of seven partners in the North West Shelf (NWS) venture. The joint venture operation covers offshore production platforms, an FPSO, trunklines, onshore gas and LNG processing plants and LNG carriers. BP’s net share of the capacity of NWS LNG Trains 1-5 is 2.7 million tonnes of LNG per year. • BP has a 30% equity stake in the 7 million tonne per annum capacity Guangdong LNG re-gasification and pipeline project in south-east China, making it the only foreign partner in China’s LNG import business. In addition to LNG supplied under a long-term contract with Australia’s NWS project, the terminal took delivery of an additional eight spot LNG cargoes during 2008, to meet rapidly growing local demand for gas. 29 i w e v e r e c n a m r o f r e P delivery and settlement at a future date. Typically, these contracts specify delivery terms for the underlying commodity. Certain of these transactions are not settled physically. This can be achieved by transacting offsetting sale or purchase contracts for the same location and delivery period that are offset during the scheduling of delivery or dispatch. The contracts contain standard terms such as delivery point, pricing mechanism, settlement terms and specification of the commodity. Typically, volume and price are the main variable terms. Swaps can be contractual obligations to exchange cash flows between two parties. One usually references a floating price and the other a fixed price, with the net difference of the cash flows being settled. Options give the holder the right, but not the obligation, to buy or sell natural gas products or power at a specified price on or before a specific future date. Amounts under these derivative financial instruments are settled at expiry, typically through netting agreements to limit credit exposure and support liquidity. Spot and term contracts Spot contracts are contracts to purchase or sell a commodity at the market price, typically an index price prevailing on the delivery date when title to the inventory passes. Term contracts are contracts to purchase or sell a commodity at regular intervals over an agreed term. Though spot and term contracts may have a standard form, there is no offsetting mechanism in place. These transactions result in physical delivery with operational and price risk. Spot and term contracts relate typically to purchases of third-party gas and sales of the group’s gas production to third parties. Spot and term sales are included in total revenues, when title passes. Similarly, spot and term purchases are included in purchases for accounting purposes. BP Annual Report and Accounts 2008 Performance review • BP Shipping took delivery of four LNG ships during 2007 and 2008. The ‘Gem’ class ships can carry 155,000m3 of LNG and are among the first ships in the industry to be powered by low-emission, fuel- efficient, diesel-electric propulsion. BP Shipping provides safe, environmentally responsible marine and shipping solutions in support of BP group activities. • In both the Atlantic and Asian regions, BP is marketing LNG using BP LNG shipping and contractual rights to access import terminal capacity in the liquid markets of the US (via Cove Point and Elba Island) and the UK (via the Isle of Grain), and is supplying Asian customers in Japan, South Korea and Taiwan. Gas marketing and trading activities Gas and power marketing and trading activity is undertaken primarily in the US, Canada, the UK and Europe to market both BP production and third-party natural gas and manage market price risk as well as to create incremental trading opportunities through the use of commodity derivative contracts. Additionally, this activity generates fee income and enhanced margins from sources such as the management of price risk on behalf of third-party customers. These markets are large, liquid and volatile. In connection with the above activities, the group uses a range of commodity derivative contracts and storage and transport contracts. These include commodity derivatives such as futures, swaps and options to manage price risk and forward contracts used to buy and sell gas and power in the marketplace. Using these contracts, in combination with rights to access storage and transportation capacity, allows the group to access advantageous pricing differences between locations, time periods and arbitrage between markets. Natural gas futures and options are traded through exchanges, while over-the-counter (OTC) options and swaps are used for both gas and power transactions through bilateral and/or centrally cleared arrangements. Futures and options are primarily used to trade the key index prices such as Henry Hub, while swaps can be tailored to price with reference to specific delivery locations where gas and power can be bought and sold. OTC forward contracts have evolved in both the US and UK markets, enabling gas and power to be sold forward in a variety of locations and future periods. These contracts are used both to sell production into the wholesale markets and as trading instruments to buy and sell gas and power in future periods. Storage and transportation contracts allow the group to store and transport gas, and transmit power between these locations. The group has developed a risk governance framework to manage and oversee the financial risks associated with this trading activity, which is described in Note 28 to the Financial statements on pages 142-147. The range of contracts that the group enters into is described below in more detail: Exchange-traded commodity derivatives Exchange-traded commodity derivatives include gas and power futures contracts. Though potentially settled physically, these contracts are typically settled financially. Gains and losses, otherwise referred to as variation margins, are settled on a daily basis with the relevant exchange. Realized and unrealized gains and losses on exchange-traded commodity derivatives are included in total revenues for accounting purposes. OTC contracts These contracts are typically in the form of forwards, swaps and options. Some of these contracts are traded bilaterally between counterparties; others may be cleared by a central clearing counterparty. These contracts can be used for both trading and risk management activities. Realized and unrealized gains and losses on OTC contracts are included in total revenues for accounting purposes. Highly developed markets exist in North America and the UK where gas and power can be bought and sold for delivery in future periods. These contracts are negotiated between two parties to purchase and sell gas and power at a specified price, with 30 BP Annual Report and Accounts 2008 Performance review Refining and Marketing Our Refining and Marketing business is responsible for the supply and trading, refining, manufacturing, marketing and transportation of crude oil, petroleum, chemicals products and related services to wholesale and retail customers. BP markets its products in more than 100 countries. We operate primarily in Europe and North America and also manufacture and market our products across Australasia, in China and other parts of Asia, Africa and Central and South America. In 2008 we restructured the Refining and Marketing organization into two main business groupings: fuels value chains (FVCs) and international businesses (IBs). The FVCs integrate the activities of refining, logistics, marketing, supply and trading, on a regional basis, recognizing that the markets for our main fuels products operate regionally. This shift to a more geographic and integrated model represents a major simplification step and the opportunity to create better value from our physical assets (refineries, terminals, pipelines and retail stations). The IBs include the manufacturing, supply and marketing of lubricants, petrochemicals, liquefied petroleum gas (LPG) and aviation and marine fuels. We believe each of these IBs is competitively advantaged in the markets in which we have chosen to participate. Such advantage is derived from several factors, including location, proximity of manufacturing assets to markets, physical asset quality, operational efficiency, technology advantage and the strength of our brands. Each business has a clear strategy focused on investing in its key assets and market positions in order to deliver value to its customers and out perform its competitors. During the past five years, our focus has been on process safety, upgrading organizational capability and significant integrity management investment. The construction of new production units at many of our refineries as well as upgrades of existing conversion units at a number of our facilities has positioned our assets to produce the high-quality fuels needed to meet today's heightened product specifications. Our performance in 2008 The 2008 environment in which the segment operated was very challenging, characterized by high and volatile crude and product prices, which resulted in substantial margin volatility as well as higher energy costs in manufacturing. Crude prices fell significantly in the second half of the year and at the end of the year, prices were around $50/bbl lower than the start of the year. Refining margins in the US were significantly weaker than 2007 due to weaker gasoline demand. Conversely, in Europe, where diesel accounts for a larger share of regional demand, margins were stronger than a year ago. Demand for fuels has fallen, initially due to high oil prices and subsequently due to the slowing of global economies and the impact of the financial crisis. During the fourth quarter, we saw a dramatic decline in the demand for our petrochemicals products as a consequence of the economic slowdown. The year also saw material swings in foreign exchange rates, particularly in the second half, that affected our results. Our 2008 performance reflects the benefits of the fundamental improvements we are making across the business, including the measures we have taken to restore the availability of our refining system, reduce costs and simplify the organization. The loss before interest and tax was $1.9 billion for 2008, compared with a profit before interest and tax of $6.1 billion in 2007. The decrease was primarily driven by inventory- holding losses. Our financial results are discussed in more detail on pages 54-55. i w e v e r e c n a m r o f r e P Safety, both process and personal, remains our top priority. During 2008, we started the migration to the new BP Operating Management System (OMS) with an increased focus on process safety and continuous improvement. The OMS is described in further detail on page 44. At the end of the year, two of our petrochemicals plants in the US and two of our refineries in Europe were operating on OMS. Within our US refineries, we continue to implement the recommendations from the BP US Refineries Independent Safety Review Panel. We have worked closely with the independent expert, L Duane Wilson. The number of major incidents associated with integrity management has decreased by 90% since 2005. We have also reduced the number of oil spills by 60% and the recordable injury rate by more than 57% since 1999. Regrettably, in 2008 there were four workforce fatalities associated with our operations, one of which was a process safety incident. In 2008, we saw the first substantial benefits of our operational improvements. The Whiting refinery was restored to its full clean fuel capability of 360mb/d in March 2008 following the compressor failure and fire that took place during 2007. Texas City was also restored to full economic capability by the end of the year. In Europe and Rest of World, we commissioned new upgrading units at the Rotterdam and Kwinana refineries, enhanced processing capability at the Gelsenkirchen refinery, reconfigured the Bayernoil refinery for more efficient and competitive operation, and completed construction of a new coker at the Castellón refinery. During the next five years, we intend to continue the focus on process safety, improve the competitive performance of our refineries and complete the previously announced investment in the Whiting refinery to increase its ability to process Canadian heavy crude. In total, our 17 refineries worldwide, including those partially owned, achieved throughputs of 2,155mb/d on average, a 5% increase on 2007 after adjusting for the net loss of throughput from previous disposals and acquisitions. The performance of Texas City was impacted by Hurricane Ike in September, which meant we had to shut down the refinery in advance as a precautionary measure, along with other refineries in the area. Operational disruption was minimized as crude processing was restored in seven days and full operations restored within three weeks. This was due to a terrific response from employees and also reflected the improvements we have made to our assets at Texas City over the last few years. During 2008, we fully integrated our refining, logistics, marketing, supply and trading activities, establishing six refining-to-marketing integrated FVCs focused on refining and selling ground transportation fuels in each region. This has enabled us to simplify internal interfaces, optimize margins, reduce overhead costs and drive continuous improvement. During the year, we continued the implementation of our ampm convenience retail franchise model in the US, which we expect to provide reliable long-term sales growth for our refinery systems, together with reduced costs and lower levels of capital investment. In Europe, where we are one of the largest forecourt convenience retailers, with about 2,500 shops in 10 countries, we are growing our food-on-the-go and fresh grocery services through BP-owned brands and partnerships with leading retailers such as Marks & Spencer. In relation to our IBs during 2008, in the lubricants business we focused on enhancing our customer relationships and brand distinctiveness, together with simplifying operations and improving efficiency. Although 2008 was a difficult year for the aviation industry, in Air BP, we simplified our footprint by exiting non-core countries resulting in a reduction in working capital and improved returns on operating capital employed. During the year, the environment in which our petrochemicals businesses operate became more challenging as deterioration in the global economic market led to reduced demand for our products. We are simplifying the structure of our organization, improving the efficiency of our back office and reducing our headcount, including the number of senior management positions. 31 BP Annual Report and Accounts 2008 Performance review Looking ahead, in 2009 the overall economic environment is expected to be challenging with reduced demand for our products leading to lower volumes and pressure on margins. The impact is expected to be greatest in the petrochemicals sector. Against this background, we intend to continue actively managing our cost base, simplifying our marketing footprint and developing the market positions where we have competitive advantage based on brand and technology strengths. We also intend to improve the efficiency of our back office, including customer service, accounting services and procurement systems, by centralizing these activities in a few global centres to remove duplication and reduce cost. We intend to focus on cash generation through active management of our working capital and credit exposure. We intend to limit our capital investment to maintaining and improving our core positions. To continue the progress we have made in recent years, our top priority for spending will remain safety and operational integrity. The other area of focus will be delivering integrated value in our key markets through investment in terminals and pipeline infrastructure. Our largest investment is expected to be at the Whiting refinery, where we have started a major upgrading and modernization programme that will enable the refinery to operate on Canadian heavy crude oil. We also intend to complete the planned projects in petrochemicals (see page 36). Sales of refined productsa Marketing sales UKb Rest of Europe US Rest of World Total marketing salesc Trading/supply salesd Total refined products thousand barrels per day 2008 2007 2006 310 1,256 1,460 685 3,711 1,987 5,698 339 1,294 1,533 640 3,806 1,818 5,624 356 1,340 1,595 581 3,872 1,929 5,801 $ million Proceeds from sale of refined products 248,561 194,979 177,995 aExcludes sales to other BP businesses, sales of Aromatics & Acetyls products and Olefins & Derivatives sales through equity-accounted entities. bUK area includes the UK-based international activities of Refining and Marketing. cMarketing sales are sales to service stations, end-consumers, bulk buyers and jobbers (i.e. third parties who own networks of a number of service stations and small resellers). dTrading/supply sales are sales to large unbranded resellers and other oil companies. Comparative information presented in the table below has been The following table sets out marketing sales by major product group. restated, where appropriate, to reflect the resegmentation, following transfers of businesses between segments, that was effective from 1 January 2008. See page 16 for further details. Key statistics Total revenuesa Profit before interest and tax from continuing operationsb Total assets Capital expenditure and acquisitions 2008 320,458 2007 250,897 (1,884) 75,329 6,634 6,076 95,311 5,495 $ million 2006 232,833 4,919 80,738 3,127 $ per barrel Global Indicator Refining Marginc 6.50 9.94 8.39 aIncludes sales between businesses. bIncludes profit after interest and tax of equity-accounted entities. cThe Global Indicator Refining Margin (GIM) is the average of regional industry indicator margins, which we weight for BP’s crude refining capacity in each region. Each regional indicator margin is based on a single representative crude with product yields characteristic of the typical level of upgrading complexity. The refining margins are industry-specific rather than BP-specific measures, which we believe are useful to investors in analyzing trends in the industry and their impact on our results. The margins are calculated by BP based on published crude oil and product prices and take account of fuel utilization and catalyst costs. No account is taken of BP’s other cash and non-cash costs of refining, such as wages and salaries and plant depreciation. The indicator margin may not be representative of the margins achieved by BP in any period because of BP’s particular refining configurations and crude and product slate. Total revenues are analysed in more detail below. Sale of crude oil through spot and term contracts 54,901 43,004 38,577 2008 2007 $ million 2006 Marketing, spot and term sales of refined products Other sales and operating revenues Earnings from equity-accounted entities (after interest and tax), interest, and other revenues 248,561 16,577 194,979 12,238 177,995 15,814 419 320,458 676 250,897 447 232,833 thousand barrels per day Sale of crude oil through spot and term contracts 1,689 1,885 2,110 Marketing, spot and term sales of refined products 5,698 5,624 5,801 32 Marketing sales by refined product Aviation fuel Gasolines Middle distillates Fuel oil Other products Total marketing sales 2008 501 1,500 1,055 460 195 3,711 thousand barrels per day 2007 490 1,572 1,119 429 196 3,806 2006 488 1,603 1,170 388 223 3,872 Marketing volumes were 3,711mb/d, slightly lower than last year, reflecting the impacts from the slowing of global economies and reduced industry demand in the US and Europe. Fuels value chains Following our reorganization we have six integrated FVCs. They are organized regionally, covering the West Coast and Mid-West regions of the US, the Rhine region, Southern Africa, Australasia (ANZ) and Iberia. Each of these is a material business, optimizing activities across the supply chain – from crude delivery to the refineries; manufacture of high-quality fuels to meet market demand; pipeline and terminal infrastructure and the marketing and sales to our customers. The Texas City refinery is operated as a standalone predominantly merchant refining business that also supports our marketing operations on the east and gulf coasts. Refining The group’s global refining strategy is to own and operate strategically advantaged refineries that benefit from vertical integration with our marketing and trading operations, as well as horizontal integration with other parts of the group’s business. Refining’s focus is to maintain and improve its competitive position through sustainable, safe, reliable and efficient operations of the refining system and disciplined investment for integrity management, to achieve competitively advantaged configuration and growth. For BP, the strategic advantage of a refinery relates to its location, scale and configuration to produce fuels from lower-cost feedstocks in line with the demand of the region. Strategic investments in our refineries are focused on securing the safety and reliability of our assets while improving our competitive position. In addition, we continue to invest to develop the capability to produce the cleaner fuels that meet the requirements of our customers and their communities. BP Annual Report and Accounts 2008 Performance review The following table summarizes the BP group’s interests in refineries and crude distillation capacities at 31 December 2008. Refinery Fuels value chain Group interestb % thousand barrels per day Crude distillation capacitiesa BP share Total Rest of Europe Germany Netherlands Spain Total Rest of Europe US California Washington Indiana Ohio Texas Total US Rest of World Australia New Zealand Kenya South Africa Total Rest of World Total Bayernoil Gelsenkirchen* Karlsruhe Lingen* Schwedt Rotterdam* Castellón* Carson* Cherry Point* Whiting* Toledo* Texas City* Bulwer* Kwinana* Whangerei Mombasac Durban Rhine Rhine Rhine Rhine Rhine Rhine Iberia US West Coast US West Coast US Mid-West US Mid-West – ANZ ANZ ANZ Southern Africa Southern Africa 22.5% 50.0% 12.0% 100.0% 18.8% 100.0% 100.0% 100.0% 100.0% 100.0% 50.0% 100.0% 100.0% 100.0% 23.7% 17.1% 50.0% 215 266 323 93 226 386 110 1,619 266 234 405 155 475 1,535 102 137 102 94 180 615 3,769 48 133 39 93 42 386 110 851 266 234 405 78 475 1,458 102 137 24 16 90 369 2,678 i w e v e r e c n a m r o f r e P *Indicates refineries operated by BP. aCrude distillation capacity is gross rated capacity, which is defined as the maximum achievable utilization of capacity (24-hour assessment) based on standard feed. bBP share of equity, which is not necessarily the same as BP share of processing entitlements. cOn 15 January 2008, it was announced that Essar Energy Overseas Ltd, a subsidiary of Essar Oil Limited, had entered into an agreement to acquire 50% of Kenya Petroleum Refineries Ltd. The transaction was initially expected to be finalized in 2008, but has since been delayed in negotiations. The following table outlines by region the volume of crude oil and feedstock processed by BP for its own account and for third parties. Corresponding BP refinery capacity utilization data is summarized. Refinery throughputsa UK Rest of Europe US Rest of World Total Refinery capacity utilization Crude distillation capacity at 31 Decemberb Crude distillation capacity utilizationc US Europe Rest of World 2008 – 739 1,121 295 2,155 2,678 78% 72% 85% 83% thousand barrels per day 2007 67 691 1,064 305 2,127 2,769 72% 62% 84% 84% 2006 165 648 1,110 275 2,198 2,823 76% 70% 87% 78% aRefinery throughputs reflect crude and other feedstock volumes. bCrude distillation capacity is gross rated capacity, which is defined as the maximum achievable utilization of capacity (24-hour assessment) based on standard feed. cCrude distillation capacity utilization is defined as the percentage utilization of capacity per calendar day during the year after making allowances for average annual shutdowns at BP refineries (i.e. net rated capacity). 33 BP Annual Report and Accounts 2008 Performance review Excluding portfolio impacts, underlying refining throughputs in 2008 increased by 5% relative to 2007, driven principally by improved operational performance in the US. Higher US throughputs were attributable to the recoveries at the Texas City and Whiting refineries, partially offset by the reduced equity interest in the Toledo refinery stemming from the Husky joint venture (see below). The improvement achieved in the US was lower than it would have been as crude runs were reduced as a result of the low-margin environment as well as the disruption at the Texas City refinery in September caused by Hurricane Ike. The increase in Rest of Europe throughputs in 2008 is primarily related to the purchase of Chevron’s 31% interest in the Rotterdam refinery in 2007. The decrease in UK throughputs is due to the sale of the Coryton refinery to Petroplus. Significant events in Refining were as follows: • On 21 March 2008, the Whiting refinery in the US was restored to its full clean fuel capability of 360mb/d. • BP completed recommissioning the Texas City refinery in the US. With the successful return to service of Ultraformer No. 3 in the fourth quarter, the site’s full economic capability was restored. • On 31 March 2008, we completed a deal with Husky Energy Inc. to create an integrated North American oil sands business by means of two separate joint ventures, one of which entailed Husky taking a 50% interest in BP’s Toledo refinery. The Toledo refinery is intended to be expanded to process approximately 170mb/d of heavy oil and bitumen by 2015. • In July, a final investment decision was taken to progress the significant upgrade of the Whiting refinery. This project repositions Whiting competitively by increasing its Canadian heavy crude processing capability by 260mb/d and modernizing it with equipment of significant size and scale. • On 17 March 2008, BP and Irving Oil entered into a memorandum of understanding to work together on evaluating the feasibility of the proposed Eider Rock refinery in Saint John, New Brunswick, Canada. Fuels marketing, supply and logistics Our fuels marketing strategy focuses on optimizing the integrated value of each fuels value chain that is responsible for the delivery of ground fuels to the market. We do this by co-ordinating our marketing, refining and trading activities to maximize synergies across the whole value chain. Our priorities are to operate an advantaged infrastructure and logistics network (which includes pipelines, storage terminals and road or rail tankers), drive excellence in operating and transactional processes and deliver compelling customer offers in the various markets where we operate. The fuels business markets a comprehensive range of refined oil products primarily focused on the ground fuels sector. On 29 August 2008, BP announced an agreement with Enbridge Inc. to build and reconfigure a pipeline system to transport Canadian heavy crude oil from Flanagan, Illinois, to Houston and Texas City, Texas. The system is expected to be in service by late 2012 with an initial capacity of 250mb/d. The joint investment of the phased capacity additions is expected to be in the range of $1-2 billion. The ground fuels business supplies fuel and related convenience services to retail consumers through company-owned and franchised retail sites as well as other channels including wholesalers and jobbers. It also supplies commercial customers within the road and rail transport sectors. BP’s value creation in ground fuels is obtained through the integration of the value chain from the refinery gates or import hubs across retail and commercial channels to market. Convenience retail offers are focused on delivering appealing convenience offers across the various markets in which we operate, through the BP Connect, ampm and Aral brands. 34 Our retail network is largely concentrated in Europe and the US, and also has established operations in Australasia and southern and eastern Africa. We are developing networks in China in two separate joint ventures, one with Petrochina and the other with China Petroleum and Chemical Corporation (Sinopec). Retail sitesa b UK Rest of Europe US (excluding jobbers) US jobbers Rest of World Total Number of retail sites operated under a BP brand 2008 1,200 7,400 2,500 9,200 2,300 22,600 2007 1,200 7,400 2,500 9,700 2,500 23,300 2006 1,300 7,700 2,700 9,600 2,600 23,900 a Changes in the number of retail sites over time are affected by, among other things, dealer/jobber owned sites that move to or from the BP brand as their fuel supply agreements expire and are renegotiated in the normal course of business. b Excludes our interest in equity-accounted entities. Comparative information has been amended to this basis. At 31 December 2008, BP’s worldwide network consisted of some 22,600 locations branded BP, Amoco, ARCO and Aral, around the same as in the previous year. We continue to improve the efficiency of our retail network and increase the consistency of our site offer through a process of regular review. In 2008, we sold 470 company-owned sites to dealers, jobbers and franchisees who continue to operate these sites under the BP brand. We also divested an additional 160 company-owned sites to third parties. At 31 December 2008, BP’s retail network in the US comprised approximately 11,700 sites, of which approximately 9,200 were owned by jobbers and 900 operated under a franchise agreement. In November 2007, BP announced that it would sell all of its company-owned and company-operated convenience sites in the US. Despite the challenges in the global credit market, we expect the sale of these sites to be completed by the end of 2009. At the end of 2008, sales of 293 of sites had been successfully completed. The sites will continue to market BP- branded fuels in the eastern US and ARCO-branded fuels in the western US. The franchise agreement has a term of 20 years and requires sites to be supplied with BP- or ARCO-branded fuels for the term of the contract. At the end of 2008, our European retail network consisted of approximately 8,600 sites and we had approximately 2,300 sites in the Rest of World. Our retail convenience operations offer consumers a range of food, drink and other consumables and services on the fuel forecourt in a safe, convenient and innovative manner. With operations in both Europe and the US, using recognized and distinctive brands, BP is working to maximize the efficiency and effectiveness of its retail network in each of its chosen market areas. By the end of 2008, we completed the roll-out of more than 100 Marks & Spencer Simply Food sites as an integral part of the convenience network in the UK, while a refresh of the Petit Bistro brand in Germany and the Wild Bean Café brand in other European locations has re-energized consumers’ convenience shopping choices. In the US, BP has embarked on a roll-out of its successful ampm brand across all targeted national markets as its single convenience flagship; this programme roll-out is intended to be completed by the end of 2009. BP Annual Report and Accounts 2008 Performance review Supply and trading The group has a long-established integrated supply and trading function responsible for delivering value across the overall crude and oil products supply chain. This structure enables BP to maintain a single face to the oil trading markets and to operate with a single set of trading compliance processes, systems and controls. Operating through trading offices located in Europe, the US and Asia, the function is able to maintain a presence in the regionally connected global markets. The function seeks to identify the best markets and prices for our crude oil, source optimal feedstocks for our refineries and provide competitive supply for our marketing businesses. In addition, where refinery production is surplus to marketing requirements or can be sourced more competitively, it is sold into the market. Wherever possible, the group will look to optimize value across the supply chain. For example, BP will often sell its own crude production into the market and purchase alternative crude for its refineries where this will provide incremental margin. In addition to the supply activity described above, the function seeks to create incremental trading opportunities. It enters into the full range of exchange-traded commodity derivatives, over-the-counter (OTC) contracts and spot and term contracts that are described in detail below. In order to facilitate the generation of trading margin from arbitrage, blending and storage opportunities, it also both owns and contracts for storage and transport capacity. The group has developed a risk governance framework to manage and oversee the financial risks associated with this trading activity, which is described in the Financial statements – Note 28 on pages 142-147. The range of transactions that the group enters into is described below: Exchange-traded commodity derivatives These contracts are typically in the form of futures and options traded on a recognized exchange, such as Nymex, SGX, ICE and Chicago Board of Trade. Such contracts are traded in standard specifications for the main marker crude oils, such as Brent and West Texas Intermediate, and the main product grades, such as gasoline and gasoil. Gains and losses, otherwise referred to as variation margins, are settled on a daily basis with the relevant exchange. These contracts are used for the trading and risk management of both crude oil and refined products. Realized and unrealized gains and losses on exchange-traded commodity derivatives are included in total revenues for accounting purposes. OTC contracts These contracts are typically in the form of forwards, swaps and options. Some of these contracts are traded bilaterally between counterparties; others may be cleared by a central clearing counterparty. These contracts can be used both as part of trading and risk management activities. Realized and unrealized gains and losses on OTC contracts are included in total revenues for accounting purposes. The main grades of crude oil bought and sold forward using standard contracts are West Texas Intermediate and a standard North Sea crude blend (Brent, Forties and Osberg or BFO). Although the contracts specify physical delivery terms for each crude blend, a significant volume are not settled physically. The contracts typically contain standard delivery, pricing and settlement terms. Additionally, the BFO contract specifies a standard volume and tolerance given that the physically settled transactions are delivered by cargo. Swaps are often contractual obligations to exchange cash flows between two parties: a typical swap transaction usually references a floating price and a fixed price with the net difference of the cash flows being settled. Options give the holder the right, but not the obligation, to buy or sell crude or oil products at a specified price on or before a specific future date. Amounts under these derivative financial instruments are settled at expiry, typically through netting agreements, to limit credit exposure and support liquidity. Spot and term contracts Spot contracts are contracts to purchase or sell crude and oil products at the market price prevailing on and around the delivery date when title to the inventory is taken. Term contracts are contracts to purchase or sell a commodity at regular intervals over an agreed term. Though spot and term contracts may have a standard form, there is no offsetting mechanism in place. These transactions result in physical delivery with operational and price risk. Spot and term contracts relate typically to purchases of crude for a refinery, purchases of products for marketing, sales of the group’s oil production and sales of the group’s oil products. For accounting purposes, spot and term sales are included in total revenues, when title passes. Similarly, spot and term purchases are included in purchases for accounting purposes. International businesses Our IBs provide quality products and offers to customers in more than 100 countries worldwide with a significant focus on Europe, North America and Asia. Our products include aviation and marine fuels, lubricants that meet the needs of various industries and consumers, LPG, and a range of petrochemicals that are sold for use in the manufacture of other products such as fabrics, fibres and various plastics. i w e v e r e c n a m r o f r e P Lubricants We manufacture and market lubricants and related products and services to the automotive, industrial, marine and energy markets across the world. Following a decision to simplify and focus our channels of trade, we now sell products direct to our customers in around 50 countries and use approved local distributors for the remaining locations. Customer focus, distinctive brands, superior technology and relationships remain the cornerstones of our long-term strategy. BP markets primarily through its major brands of Castrol and BP, plus the Aral brand in some specific markets. Castrol is recognized as one of the most powerful lubricants brands worldwide and we believe it provides us with a significant competitive advantage. In the automotive lubricants sector, we supply lubricants and other related products and services to intermediate customers such as retailers and workshops. These, in turn, serve end-consumers such as car, truck and motorcycle owners in the mature markets of Western Europe and North America as well as the markets of Russia, China, India, the Middle East, South America and Africa, which we believe have the potential for significant long-term growth. BP’s marine lubricants business is a global market leader, supplying many types of vessels from deep-sea fleets to marine leisure- craft from around 1,200 ports across the globe. BP’s industrial lubricants business is a leading supplier to those sectors of the market involved in the manufacture of automobiles, trucks, machinery components and steel. BP is also a leading supplier of lubricants for the offshore oil and aviation industries. 35 BP Annual Report and Accounts 2008 Performance review Petrochemicals Our petrochemicals operations are comprised of the global Aromatics & Acetyls businesses (A&A) and the Olefins & Derivatives (O&D) businesses, predominantly in Asia. New investments are targeted principally in the higher growth Asian markets. In A&A, we manufacture and market three main product lines: purified terephthalic acid (PTA), paraxylene (PX) and acetic acid. Our A&A strategy is to leverage our industry-leading technology in selected markets, to grow the business and to deliver industry-leading returns. PTA is a raw material used in the manufacture of polyesters used in fibres, textiles and film, and PET bottles. Acetic acid is a versatile intermediate chemical used in a variety of products such as paints, adhesives and solvents, as well as its use in the production of PTA. We have a strong global market share in the PTA and acetic markets with a major manufacturing presence in Asia, particularly China. PX is a feedstock for PTA production. Significant events in petrochemicals were as follows: • The second PTA plant at the BP Zhuhai Chemical Company Limited site in Guangdong province (China) successfully completed commissioning in the first quarter of 2008. This 900+ ktepa plant is the single largest PTA manufacturing train in the world and employs BP’s latest, proprietary technology. • Construction continued on the new 500ktepa acetic acid plant in Jiangsu province (China) by BP YPC Acetyls Company (Nanjing) Limited (BYACO). This is a BP joint venture with Yangzi Petrochemical Co. Ltd (a subsidiary of Sinopec). Construction is scheduled to be completed in June 2009 with commercial sales expected to begin in the third quarter of 2009. • Commissioning of our expanded Geel (Belgium) PTA facility commenced at the end of 2008. The 350ktepa expansion improves overall operating costs and increases the site’s PTA capacity to 1,425ktepa. In O&D, we manufacture ethylene and propylene from naphtha • In January 2008, BP and Sinopec signed a memorandum of and also produce a number of downstream derivative products. Our O&D business has operations in both China and Malaysia. In China, our SECCO joint venture between BP, Sinopec and its subsidiary, Shanghai Petrochemical Company is the largest foreign-invested olefins cracker in China. SECCO is BP’s single largest investment in China. This naphtha cracker produces ethylene and propylene plus derivatives acrylonitrile, polyethylene, polypropylene, styrene, polystyrene, and other products. In Malaysia, BP participates in two joint-ventures: Ethylene Malaysia Sdn. Bhd. (EMSB), which produces ethylene from gas feedstock in a joint venture between BP, Petronas and Idemitsu; while Polyethylene Malaysia Sdn. Bhd. (PEMSB) produces polyethylene in a joint venture between BP and Petronas. Each of these ventures has demonstrated a strong track record of project delivery and performance. BP also owns one other naphtha cracker outside Asia, which is integrated with our Gelsenkirchen refinery in Germany. The following table shows BP’s petrochemicals production capacity at 31 December 2008. This production capacity is based on the original design capacity of the plants plus expansions. BP share of capacity Geographic area US Europe Asia (excluding China) China PTA Acetic acid PX 546 2,385 2,373 544 622 1,075 815 – 2,209 1,554 215 – 7,223 2,995 2,120 thousand tonnes per year O&D Other Total 151 – 5,455 158 1,629 4,028 56 257 3,337 51 2,290 4,110 416 4,176 16,930 During 2008, the environment in which our petrochemicals businesses operate became more challenging as deterioration in the global economic environment has led to a reduced demand for our products. understanding to add a new acetic acid plant at their Yangtze River Acetyls Co. (YARACO) joint venture site in Chongqing (China). This world-scale (650ktepa) acetic acid plant will use BP’s leading Cativa™ technology. The expected plant start-up date, which was originally anticipated to be during 2011, is under review due to the market conditions. When complete, total production at the YARACO site is expected to be well over one million tonnes per annum, making this one of the largest acetic acid production locations in the world. Aviation and marine fuels Air BP is one of the world’s largest and best known aviation fuels suppliers, serving all the major commercial airlines as well as the general aviation and military sectors. During 2008, which was a tough year for the aviation industry, we simplified our geographical footprint by exiting non- core countries and now supply customers in approximately 70 countries. We have annual marketing sales in excess of 27 billion litres and we have relationships with many of the world’s major commercial airlines. Air BP’s strategic aim is to grow its position in the core locations of Europe, the US, Australasia and the Middle East, while focusing its portfolio towards airports that offer long-term competitive advantage. BP’s marine fuels business focuses on the distribution and sale of refined fuel oils to the shipping industry at locations in more than 100 ports across the world. During 2008, this business performed well, supported by strong growth in the shipping market. LPG The LPG business sells bulk, bottled, automotive and wholesale LPG products to a wide range of customers in 13 countries. During the past few years, our LPG business has consolidated its position in established markets, pursued opportunities in new and emerging markets such as China and announced the exit from the Vietnam market in December 2008. LPG product sales in 2008 were approximately 68mbpd. 36 BP Annual Report and Accounts 2008 Performance review Other businesses and corporate Other businesses and corporate comprizes Treasury (which includes interest income on the group’s cash and cash equivalents) and corporate activities worldwide, the group’s aluminium asset, the Alternative Energy business and Shipping. Comparative information presented in the table below has been restated, where appropriate, to reflect the resegmentation, following transfers of businesses between segments, that was effective from 1 January 2008. See page 16 for more details. Alternative Energy BP invested $1.4 billion in our Alternative Energy business during 2008, bringing the total investment in this business to $2.9 billion since its launch in 2005. We expect to fulfil our original 2005 commitment to invest a total of $8 billion over 10 years. In 2008, we prioritized four areas with significant long-term growth potential – wind, solar, biofuels and carbon capture and storage (CCS). We have also developed a fifth area – gas-fired power – that offers synergies with other BP operations. We have concentrated our 2008 investment in these areas. 2008 5,040 2007 3,972 Wind – net rated capacity as at year-end (megawatts)a Solar – cell production capacity as at year-end (megawatts)b $ million 2006 3,703 2008 2007 2006 432 213 172 228 43 201 Key statistics Total revenuesa Profit (loss) before interest and tax from continuing operationsb Total assets Capital expenditure and acquisitions (1,258) 19,079 1,839 (1,233) 20,595 939 (779) 16,315 852 aIncludes sales between businesses. bIncludes profit after interest and tax of equity-accounted entities. Treasury Treasury co-ordinates the management of the group’s major financial assets and liabilities. From locations in the UK, the US and the Asia Pacific region, it provides the link between BP and the international financial markets and makes available a range of financial services to the group, including supporting the financing of BP’s projects around the world. Insurance The group generally restricts its purchase of insurance to situations where this is required for legal or contractual reasons. This is because external insurance is not considered an economic means of financing losses for the group. Losses are therefore borne as they arise, rather than being spread over time through insurance premiums with attendant transaction costs. This position is reviewed periodically. Aluminium Our aluminium business is a non-integrated producer and marketer of rolled aluminium products, headquartered in Louisville, Kentucky, US. Production facilities are located in Logan County, Kentucky, and are jointly owned with Novelis. The primary activity of our aluminium business is the supply of aluminium coil to the beverage can business, which it manufactures primarily from recycled aluminium. i w e v e r e c n a m r o f r e P a Net wind capacity is the sum of the rated capacities of the assets/turbines that have entered into commercial operation, including BP’s share of equity-accounted entities. The equivalent capacities on a gross-JV basis (which includes 100% of the capacity of equity-accounted entities where BP has partial ownership) were 785MW in 2008, 373MW in 2007 and 43MW in 2006. b Solar capacity is the theoretical cell production capacity per annum of in-house manufacturing facilities. Wind Since the launch of Alternative Energy we have substantially grown our wind portfolio, increasing from 32 megawatts (MW) in operation to 432MW (785MW gross) at the end of 2008. In total, we have more than 500MW (1,000MW gross) of installed capacity. This increase in capacity was led by the US with installations at Cedar Creek, Silver Star, Sherbino and Edom Hills. To accelerate our growth in the US wind energy market, we acquired two fully integrated wind power development companies – Greenlight Energy Inc. and Orion Energy LLC, during 2006. To secure the continuing availability of turbines we have signed agreements with Nordex (Germany) and GE (the US) for a combined 900MW to be delivered during the next two years. This is in addition to a five-year wind turbine contract we previously signed with Clipper Windpower Inc. in 2006. We also operate wind farms in the Netherlands and in Maharashtra, India. Solar We continued to implement BP Solar’s strategy to invest in lower cost manufacturing and technology to enable energy sourced from our products to compete with conventional electricity. Our global business model spans the entire solar ‘value chain’ – from the acquisition of silicon as a raw material, the production of wafers and cells to the creation of solar panels that are then sold and distributed as solar systems on the roofs of residential homes, large commercial buildings and on vacant land. Today, BP Solar’s main production facilities are located in Maryland (US), Madrid (Spain), Xi’an (China) and Bangalore (India). During 2008, due to increasingly competitive market conditions, BP Solar announced plans to refocus operations at larger scale plants to achieve lower-cost manufacturing. This resulted in the start of an intensive programme of operational efficiency improvement in the remaining BP Solar plants and plans to close our manufacturing plant in Australia. During 2008, BP Solar signed contracts with a select set of third-party strategic partners in Asia who specialize in the production of low-cost, high-quality wafers, cells and modules. During 2008, BP Solar achieved sales of 162MW, an increase of 41% from 115MW in 2007. The slight decrease in solar production capacity was due to fire damage in a section of our manufacturing plant in India. 37 BP Annual Report and Accounts 2008 Performance review More than 70% of our sales volume is through third-party distributors in the residential markets in Europe, the US and Australasia. We have continued to roll out our Certified Installer Programme (CIP), first established in Germany, to ensure the safe, high-quality installation of products by third parties. The CIP has grown rapidly in Germany and this year has been rolled out in Spain and Australia. In the US, in 2008, we continued to supply large corporations with sustainable energy solutions, completing a second solar system for FedEx Freight in California and a further six installations for Wal-Mart. In Europe, we expanded the relationship with Banco Santander to jointly build and finance a number of solar plants in Spain, with the construction of an 8 megawatts-peak (MWp) solar farm in Toledo and a 6MWp project in Tenerife. In Asia, we completed the installation of a solar power demonstration project (SolarSail) at the Guangdong Science Center; the SolarSail absorbs sunlight to produce power, while providing cool shade for visitors. In Australia, the largest roof-top solar system (100 kilowatt) in New South Wales commenced operation in February 2008, representing the first commercial solar power installation for the Blacktown Solar City Project. The Solar Cities Programme is a government initiative to implement distributed solar and other energy efficient technologies in seven Australian cities. We are developing a new silicon growth process named Mono2 TM, which will increase cell efficiency over traditional multicrystalline-based solar cells. We have moved from a prototype to low-volume production and have converted our casting stations in Frederick, Maryland, delivering 1.2MW Mono² TM. From the trials, we are seeing significant improvement in power and generated kWh when compared with multicrystalline-based solar cells particularly when modules are used where sunlight is low. BP Solar has long-term relationships with world-class universities and invests in research programmes with organizations including the University of Delaware, California Institute of Technology (Cal Tech) and the Fraunhofer Institute (Germany). BP Solar was selected for the Solar America Initiative (SAI) award from the US Department of Energy – a $40-million research and development programme aimed at decreasing the cost of solar cells and increasing their efficiency. BP Solar is also a member of the broad consortium led by DuPont in conjunction with the University of Delaware, funded by the Defense Advanced Research Projects Agency (DARPA), to develop high-efficiency solar cells. Biofuels BP has a key role to play in enabling the transport sector to respond to the dual challenges of energy security and climate change. Our investments are focused on sustainable feedstocks that minimize pressure on food supplies and on research into advanced technologies and practices to make good biofuels even better. We have embarked on a focused programme of biofuels development based around the most efficient transformation of sustainable and low-cost sugars into a range of fuel molecules. These include bioethanol from Brazilian sugar cane, more efficient fuel molecules like biobutanol and advanced biofuels like lignocellulosic bioethanol produced from non-food energy grasses and ‘for-purpose’ feedstocks such as miscanthus and energy cane. BP has announced it has plans to invest in excess of $1 billion in building our own biofuels business operations, including partnerships with other companies to develop the technologies, feedstocks and processes required to produce advanced biofuels. 38 These investments include: a 50% stake in Tropical BioEnergia, a joint venture with Santelisa Vale and Maeda Group, to produce bioethanol from sugar cane; and a $90-million investment and strategic alliance with Verenium Corporation to accelerate the development and commercialization of biofuels produced from lignocellulosic bioethanol. We have been working with DuPont since 2003 to explore new approaches to the development of biofuels. The first product from this collaboration will be an advanced fuel molecule called biobutanol, which has a higher energy content than ethanol. We have partnered with ABF (British Sugar) and DuPont to construct a world-scale biofuels plant in Hull. Innovation begins with research. In 2006, we announced plans to invest $500 million over 10 years in the Energy Biosciences Institute (EBI), at which biotechnologists are investigating applications of biotechnology to energy, including advanced fuels. This amount is incremental to the $1 billion of investments mentioned above. Our partners are the University of California, Berkeley and the University of Illinois at Urbana Champaign and the Lawrence Berkeley National Laboratory. The EBI is focusing on the integrated development of better crops, better processing technologies and better biofuels, leading to cleaner energy. Hydrogen power In May 2007, BP and Rio Tinto announced the formation of a new jointly owned company, Hydrogen Energy International Limited, which will develop decarbonized energy projects around the world. The venture will initially focus on hydrogen-fuelled power generation, using fossil fuels and CCS technology to produce new large-scale supplies of clean electricity. Hydrogen Energy is working on developing low-carbon power plants with projects in Abu Dhabi and California – manufacturing hydrogen for power generation. In both instances, the captured CO2 will be transported to nearby oil fields for use in enhanced oil recovery, with the CO2 stored deep underground. General Electric and BP have formed a global alliance to jointly develop and deploy technology for hydrogen power plants that could significantly reduce emissions of the greenhouse gas CO2 from electricity generation. Through these initiatives, BP intends to continue to shape the development of the CCS value chain and to seek to minimize the carbon footprint exposure of the BP group as carbon pricing and policy develops globally. Gas-fired power Our gas-fired power activities comprise modern combined cycle gas turbine plants, which emit around 50% less CO2 than a conventional coal plant of the same capacity, and several low-carbon co-generation gas power facilities. We have stakes in eight plants worldwide and this year increased the total power they are capable of producing from 5GW to 6GW and, where possible, we integrate plants with other BP production facilities. The Whiting Clean Energy facility, acquired in July 2008, now provides a reliable source of steam for our Whiting refinery and we are adding a 250MW steam turbine to our existing plant at our Texas City refinery. Our combined cycle plants are providing base-load demand for BP’s major upstream gas production developments. BP Annual Report and Accounts 2008 Performance review Shipping We transport our products across oceans, around coastlines and along waterways, using a combination of BP-operated, time-chartered and spot-chartered vessels. All vessels conducting BP activities are subject to our health, safety, security and environmental requirements. International fleet At the end of 2008, we had an international fleet of 54 vessels (37 medium-size crude and product carriers, four very large crude carriers, one North Sea shuttle tanker, eight LNG carriers and four LPG carriers). All these ships are double-hulled. Of the eight LNG carriers, BP manages one on behalf of a joint venture in which it is a participant and operates seven LNG carriers. Regional and specialist vessels In Alaska, during 2008, we redelivered one of our time-chartered vessels back to the owner, leaving a fleet of four double-hulled vessels. In the Lower 48, the two remaining heritage Amoco barges were phased out of BP’s service. Outside the US, at the end of 2008, we had 14 specialist vessels (two double-hulled lubricants oil barges and 12 offshore support vessels). Time-charter vessels At the end of 2008, BP had 115 hydrocarbon-carrying vessels above 600 deadweight tonnes on time-charter, of which 107 are double-hulled and one is double-bottomed. All these vessels participate in BP’s Time Charter Assurance Programme. Spot-charter vessels BP spot-charters vessels, typically for single voyages. These vessels are always vetted for safety assurance prior to use. Other vessels BP uses various craft such as tugs, crew boats and seismic vessels in support of the group’s business. We also use sub-600 deadweight tonne barges to carry hydrocarbons on inland waterways. Maritime security issues 2008 has seen a significant escalation in piracy activity, specifically off the north coast of Somalia. At a strategic level, BP avoids known areas of pirate attack or armed robbery; where this is not possible for trading reasons and we consider it safe to do so, we will continue to trade vessels through areas of known piracy, subject to the adoption of heightened security measures. BP will continue to route vessels through the Gulf of Aden for as long as it considers it to be safe to do so, having regard to available military and government agency advice. At present, we are following such advice and are participating in protective group transits through the Gulf of Aden Maritime Security Patrol Area transit corridor. i w e v e r e c n a m r o f r e P 39 BP Annual Report and Accounts 2008 Performance review Research and technology Research and technology (R&T) has a critical role to play in addressing the world’s energy challenges, from fundamental research through to wide- scale deployment. The full breadth of these R&T activities is carried out by each of the business segments. We also conduct long-term research within the central R&T group. Inside the segments, research and technology activities are in service of competitive business performance and new business development, through the research, development or acquisition of new technologies. The central R&T group provides leadership for scientific and technological activities throughout the group and, in particular, provides input to the group’s long-term strategy. It ensures that the right capability is in place in critical areas and ensures the quality of BP’s major technology programmes. It also illuminates the potential of emerging technologies and conducts research and development (R&D) in support of BP’s long-term corporate renewal. In addition, a group of eminent industrialists and academics forms the Technology Advisory Council, which advises the board and executive management on the state of research and technology within the group and helps to identify current trends and future developments in technology. Research and development (R&D) is carried out using a balance of internal and external resources. Involving third parties in the various steps of technology development and application enables a wider range of ideas and technologies to be considered and implemented, improving the impact of research and development activities. Across the group, expenditure on R&D for 2008 was $595 million, compared with $566 million in 2007 and $395 million in 2006. See Financial statements note 15 on page 132. The 5% increase in 2008 compared with 2007 reflects increased investment in biosciences, conversion and carbon capture and storage technologies. Beyond R&D, we also invest in technologies to get them to the point of commercial readiness: this includes field trials, support for technology deployment, specialist technical services and central investment in functional excellence and capability development have deepened our current areas of technology leadership. In our Exploration and Production segment, we have organized leading technologies under 10 flagship programmes, each with the potential to add more than 1 billion boe to reserves through their development and deployment in our assets worldwide. These technologies contributed to exploration and production success in Algeria, Angola, Azerbaijan, Egypt, the North Sea and the Gulf of Mexico deepwater. Our advanced seismic imaging expertise, which is one of these programmes, continues to lead the industry, pioneering new wide- azimuth seismic acquisition and processing in deepwater Angola, Egypt and the Gulf of Mexico. In addition, BP has developed new technologies that have significantly reduced the time needed for land seismic acquisition in Oman, and these are now being deployed in Libya. Our enhanced oil recovery technologies are pushing recovery factors to new limits. For example, recovery factors have already increased from 40% to 60% in Alaska, where BP operates the world’s largest miscible gas enhanced oil recovery project. BP also leads the industry in the application of new inter-well polymer treatments aimed at improving waterflood recovery, with more than 25 treatments delivering an increase of around five million barrels. Also in Alaska, BP’s first hexalateral well came online in 2008 in the Orion field, which is capable of producing 9,500 barrels of oil per day – the largest producer in BP’s operations on the North Slope; while our first well using cold heavy oil production with sand (CHOPS) technology began producing heavy oil at a production rate of 100 barrels of oil per day. Unconventional gas is another area of focus; for example, using new technologies, BP has drilled in 17 unconventional coalbed methane basins around the world, including some of the largest reservoirs in North America. Another flagship programme is our use of digital technologies to optimize production and improve recovery, where BP has established an industry-leading position. In 2008, BP’s oil and gas 40 operations, enabled by real-time data and Field-of-the-Future® technologies delivered an extra 30,000 to 50,000 boepd gross production. Also in 2008, as part of its Inherently Reliable Facilities flagship, BP completed a field trial of a new fibre-optic system that represents a step- change in onshore pipeline monitoring, and which will now be deployed in Azerbaijan, Canada and Scotland. In our Refining and Marketing segment, technology advancements are enabling our refineries to understand and process feedstocks of varying quality and optimize our assets in real time, enhancing the flexibility and reliability of our refineries and, in turn, improving the margins of our existing asset base. In 2008, BP began upgrading its Whiting refinery in Indiana to process heavy crude oil from Canada using one of the industry’s most technologically advanced coking operations. In Naperville, US, we opened a new refining R&D centre, installing more than 50 new pilot units at the forefront of experimental technology and modelling. We have installed predictive analytics technology for fault detection and prediction on critical machinery across seven of our refineries reducing losses from machinery failure. BP’s leading technologies in fuels and lubricants mean that it can keep ahead of increasingly stringent regulations, balancing greater fuel efficiency and performance and developing superior formulations across its entire product slate. For example, our BP Ultimate fuels deliver performance benefits such as improved fuel economy, lower emissions and a cleaner engine; and we have launched Greendeck and Greenfield, a suite of high- performance and environmentally friendly marine and offshore lubricants. Our proprietary processing technologies and operational experience continue to reduce the manufacturing costs and environmental impact of our petrochemicals plants, helping to maintain competitive advantage. For example, our new 900ktepa purified terephthalic acid (PTA) plant in Zhuhai, China was officially opened in 2008, occupying a plot just half the size of its older, neighbouring plant, but with double the production capacity. In the field of conversion technology, our Nikiski Fischer-Tropsch demonstration plant in Alaska operated at levels to prove that we have a working catalyst at industrial scale. In Alternative Energy, our low-carbon research and technology activity continues apace. In 2008, we filed patents covering biofuels, carbon capture and storage (CCS), and hydrogen membranes. Our solar business produced the first prototype of a cut-cell high voltage module, giving a 5% increase in power over conventional modules. Working as part of the UK’s Energy Technologies Institute – a public/private partnership to accelerate low-carbon technology development – BP is proceeding with investments in projects to develop new offshore wind and marine turbines. We also published results of the satellite monitoring programme, verified by well and tracer detection, of the CCS project at the In Salah gas field in Algeria with our partners Sonatrach. Collaboration plays an important role across the breadth of BP’s research and development activities, but particularly in those areas that benefit from fundamental scientific research. BP has 11 significant long- term research programmes with major universities and research institutions around the world, exploring areas from energy bioscience and conversion technology to carbon mitigation and nanotechnology in solar power. In 2008, our Energy Biosciences Institute at Berkeley (see page 38) became fully operational, with 49 research projects, all focused on lignocellulosic biofuel production; we announced the renewal of our Carbon Mitigation Initiative at Princeton; and signed the joint venture agreement for the Clean Energy Commercialisation Centre with the Chinese Academy of Sciences. BP Annual Report and Accounts 2008 Performance review Regulation of the group’s business BP’s activities, including its oil and gas exploration and production, pipelines and transportation, refining and marketing, petrochemicals production, trading, alternative energy and shipping activities, are conducted in many different countries and are therefore subject to a broad range of EU, US, international, regional and local legislation and regulations, including legislation that implements international conventions and protocols. These cover virtually all aspects of our activities and include matters such as licence acquisition, production rates, royalties, environmental, health and safety protection, fuel specifications and transportation, trading, pricing, anti-trust, export, taxes and foreign exchange. The terms and conditions of the leases, licences and contracts under which our oil and gas interests are held vary from country to country. These leases, licences and contracts are generally granted by or entered into with a government entity or state company and are sometimes entered into with private property owners. These arrangements with governmental or state entities usually take the form of licences or production-sharing agreements. Arrangements with private property owners are usually in the form of leases. Licences (or concessions) give the holder the right to explore for and exploit a commercial discovery. Under a licence, the holder bears the risk of exploration, development and production activities and provides the financing for these operations. In principle, the licence holder is entitled to all production, minus any royalties that are payable in kind. A licence holder is generally required to pay production taxes or royalties, which may be in cash or in kind. Less typically, BP may explore for and exploit hydrocarbons under a service agreement with the host entity in exchange for reimbursement of costs and/or a fee paid in cash rather than production. PSAs entered into with a government entity or state company generally require BP to provide all the financing and bear the risk of exploration and production activities in exchange for a share of the production remaining after royalties, if any. In certain countries, separate licences are required for exploration and production activities and, in certain cases, production licences are limited to a portion of the area covered by the exploration licence. Both exploration and production licences are generally for a specified period of time (except for licences in the US, which typically remain in effect until production ceases). The term of BP’s licences and the extent to which these licences may be renewed vary by area. Frequently, BP conducts its exploration and production activities in joint venture with other international oil companies, state companies or private companies. In general, BP is required to pay income tax on income generated from production activities (whether under a licence or production-sharing agreement). In addition, depending on the area, BP’s production activities may be subject to a range of other taxes, levies and assessments, including special petroleum taxes and revenue taxes. The taxes imposed on oil and gas production profits and activities may be substantially higher than those imposed on other activities, particularly in Angola, Norway, the UK, Russia, South America and Trinidad & Tobago. For a discussion of environmental and certain health and safety regulations and environmental proceedings, see Environment on page 43. See also Legal proceedings on page 92. Safety This section reviews BP’s safety performance in 2008. There were five workforce fatalities in 2008, compared with seven in 2007. One resulted from fatal injuries sustained during operations at our Texas City refinery; one was the result of a fall from height at the Tangguh operations in Indonesia; one fatality was on a land farm near Texas City, and two were driving fatalities incidents in Mozambique and South Africa. We deeply regret this loss of life. By learning from these incidents and implementing appropriate improvement actions, we continue to seek to secure the safety of all members of our workforce. Our workforce reported recordable injury frequency, which measures the number of injuries per 200,000 hours worked, was 0.43 in 2008. This was a good improvement on the rate of 0.48 recorded in both 2007 and 2006. Throughout 2008, senior leadership across the group continued to hold safety as their highest priority. Site visits, in which safety was a focus, were undertaken by the group chief executive (GCE) and members of the executive team to reinforce the importance of their commitment to safe and reliable operations. Management systems We continue to implement our new operating management system (OMS), a framework for operations across BP that is integral to improving safety and operating performance in every site. When fully implemented, OMS will be the single framework within which we will operate, consolidating BP’s requirements relating to process safety, environmental performance, legal compliance in operations, and personal, marine and driving safety. It embraces recommendations made by the BP US Refineries Independent Safety Review Panel (the panel), which reported in January 2007 on safety management at our US refineries and our safety management culture. The OMS establishes a set of requirements, and provides sites with a systematic way to improve operating performance on a continuous basis. BP businesses implementing OMS must work to integrate group requirements within their local system to meet legal obligations, address local stakeholder needs, reduce risk and improve efficiency and reliability. A number of mandatory operating and engineering technical requirements have been defined within the OMS, to address process safety and related risks. All operated businesses plan to transition to OMS by the end of 2010. Eight sites completed the transition to OMS in 2008; two petrochemicals plants, Cooper River and Decatur, two refineries, Lingen and Gelsenkirchen and four Exploration and Production sites, North America Gas, the Gulf of Mexico, Colombia and the Endicott field in Alaska. Implementation is continuing across the group and a number of other sites, including all refineries not already operating the OMS, are expected to complete the transition in 2009. For the sites already involved, implementing OMS has involved detailed planning, including gap assessments supported by external facilitators. A core aspect of OMS implementation is that each site produces its own ‘local OMS’, which takes account of relevant risks at the site and details the site’s approach to managing those risks. As part of its transition to OMS, a site issues its local OMS handbook, and this summarizes its approach to risk management. Each site also develops a plan to close gaps that is reviewed annually. The transition to OMS, at local and group level, has been handled in a formal and systematic way, to ensure the change is managed safely and comprehensively. i w e v e r e c n a m r o f r e P 41 BP Annual Report and Accounts 2008 Performance review Experience so far has supported our expectation that having one integrated and coherent system brings benefits of simplification and clarity, and that the process of change is supporting our renewed commitment to safe operations. We are on track to meet our target of implementing OMS across the group by the end of 2010. Capability development In addition to ongoing training programmes we are undertaking a group wide programme to enhance the capability of our staff from front line to executive level to deliver operational excellence. Almost 1,000, around a third, of our front-line supervisors have started the Operating Essentials programme, which includes training on leadership, process safety, operating culture, practices and coaching and effective performance conversations. More than 190, around half, of our operations leaders started the Operations Academy programme in 2008. The academy, which has been established in partnership with the Massachusetts Institute of Technology (MIT), provides participants with a total of six weeks of operations training, concentrating on the management of change and continuous improvement. The Executive Operations programme, which seeks to increase insight into manufacturing and operation activities among senior business leaders, has built on its successful launch with the first group, which included the group chief executive and his executive team. By the end of 2008, 99 executives had attended the three-day programme. In addition to action in these areas, we have continued to participate in industry-wide forums on process safety and have made efforts to share our learning with other organizations. The independent expert has been tasked with reporting to the board on BP’s progress in implementing the panel’s recommendations. We welcome the independent expert’s view expressed in his first report (May 2008) that BP ‘appears to be making substantial progress in changing culture and addressing needed process safety improvements’. However, we also acknowledge his observation that ‘a significant amount of work remains to be done on the process safety journey’ and that ’successful completion of the task will require the continued support and involvement of the board, executive management, and refinery leadership along with a sustained effort over an extended period of time’. The independent expert’s second report is expected in the first half of 2009. Operational integrity We continue to implement the six-point plan launched in 2006 to address immediate priorities for improving process safety and minimizing risk at our operations worldwide. We have met our commitment to remove occupied portable buildings (OPBs) from high-risk zones within onshore process plant areas and to remove all blow-down stacks in heavier-than-air, light hydrocarbon service. All major sites and our fuels value chains have completed major accident risk assessments, which identify major accident risks and develop mitigation plans to manage and respond to them. In addition, new cadres of projects and engineering staff have We continue to implement the Control of Work and Integrity Management standards. We have made progress in ensuring our operations meet the requirements of a group framework designed to ensure we stay in compliance with legal requirements on health and safety. We are continuing to take steps to close out past audit actions. Leadership competency assessments, which involve assessment of the experience of BP management teams responsible for major production sites or manufacturing plant, have been completed in Exploration and Production and in all major Refining and Marketing manufacturing sites. Implementation of these actions is expected to be largely complete by the end of 2009, with some aspects of implementation being incorporated into the transition to the OMS, expected to be completed by the end of 2010. The GORC regularly monitors progress against the plan. We monitor and report separately on major incidents such as those covering fatal accidents, significant property damage or significant environmental impact. We also track and analyze ‘high potential’ incidents – those that could have resulted in a major incident. All major incidents and many high-potential incidents are discussed by the GORC and we continue to seek to learn as much as possible from each incident. A total of 21 major incidents were reported in 2008. Two of the major incidents were related to hurricanes and eight were related to driving incidents. There were 335 oil spills of one barrel or more in 2008, similar to 2007 performance of 340 oil spills. The volume of oil spilled in 2008 was approximately 3.5 million litres, an increase of 2.5 million litres, compared with 2007. This was largely the result of two incidents, one at Texas City and one at the Whiting refinery, which accounted for two-thirds of the total reported volume of oil spilled, the great majority of which remained contained and the oil recovered. progressed through the Project and Engineering Academy at MIT and 13 process safety courses have been delivered for project and project engineering managers at the Project Management College. We have continued to develop training on hazard evaluation and risk assessment techniques for all engineers, operators and HSSE professionals. Process safety management We remain fully committed to becoming a recognized industry leader in process safety management and are working to achieve this. We have taken a range of steps, including acting on the recommendations from both the panel and those within the first annual report of the independent expert. Our actions can be summarized in three principal areas: • We have made progress in reducing process safety risk at our US refineries. For example, we have completed and learned from safety and operations audits, relocated workers to lower-risk accommodation and implemented fatigue reduction programmes. • Executive management has taken a range of actions to demonstrate their leadership and commitment to safety. The group chief executive has consistently emphasized that safety, people, and performance are our top priority, a belief made clear in his 2007 announcement of a forward agenda for simplification and cultural change in BP. Safety performance has been scrutinized by the Group Operations Risk Committee (the GORC), chaired by the group chief executive and tasked with assuring the group chief executive that group operational risks are identified and managed appropriately. We continued to build our team of safety and operations auditors. A team of 45 auditors is now in place, with 36 audits completed in 2008. • Many of the process-safety related improvements recommended by the panel are being implemented across the group through the OMS. The group essentials within the OMS (which cover diverse aspects of operating activity including legal compliance, process and environmental safety and basic operating practices) in some cases go beyond the panel’s process safety recommendations, a point noted by the independent expert in his first report. 42 BP Annual Report and Accounts 2008 Performance review Performance indicators We have well-developed systems, processes and metrics for reporting personal safety and environmental metrics that support internal performance management as well as public reporting. We introduced several new metrics in 2008 that aim to enhance our monitoring of process safety performance within BP’s operating entities. These include, for example, a process safety incident index, as recommended by the panel, which uses weighted severity scores to record and assess process safety events, and a measure to record any loss of hydrocarbon from primary containment. Our indicators include industry-aligned ‘lagging’ process safety metrics that register events that have already occurred, and ‘leading’ indicators that focus on the strength of our controls to prevent undesired events in future. A suite of indicators is regularly reported to the GORC within the quarterly ‘HSE and Operations Integrity Report’ and several new metrics have also been piloted. To further enhance the management of health risks across the group, we began the systematic reporting of recordable illness rates within the HSE and Operations Integrity Report. We continue to work with industry bodies such as the Centre for Chemical Process Safety and the American Petroleum Institute on the development of process safety metrics, definitions and guidance. Continuing to focus on health In addition to our efforts to improve process safety performance, we strive to protect the personal health and safety of our workforce, recognizing that healthy performance is delivered through healthy people, healthy processes and healthy plant. In the course of 2008, we defined health ‘group essentials’, which specify requirements designed to prevent harm to the health of employees, contractors, visitors and local communities. These were incorporated within the OMS framework. Our health strategy and plan was also refreshed in 2008. Priorities include reducing significant occupational exposure and infectious disease risks, maintaining robust regulatory compliance in product health and safety and addressing the issue of fatigue management raised by the panel by providing training and awareness-raising. i w e v e r e c n a m r o f r e P Environment Regulation and claims We are subject to extensive international, national, state and local environmental regulations concerning our products, operations and activities. Current and proposed fuel and product specifications, emission controls and climate change programmes under a number of environmental laws will have a significant effect on the production, sale and profitability of many of our products. Environmental laws also require us to remediate the environmental impacts of prior disposal or releases of chemicals or petroleum substances by the group or other parties. Such contingencies may exist for various locations where products are, or have been, produced, processed, stored, distributed, sold or disposed of, such as refineries, chemical plants, natural gas processing plants, oil and natural gas fields, service stations, terminals and waste disposal sites. Some of these obligations relate to prior asset sales or closed facilities. Provisions for environmental restoration and remediation are made when a clean-up is probable and the amount of the obligation can be reliably estimated. Generally this coincides with commitment to a formal plan of action or, if earlier, on divestment or on closure of inactive sites. The provisions made are considered by management to be sufficient to meet known requirements. The extent and cost of future environmental restoration, remediation and abatement programmes are often inherently difficult to estimate. They often depend on the extent of contamination, and the associated impact and timing of the corrective actions required, technological feasibility and BP’s share of liability. Though the costs of future programmes could be significant and may be material to the results of operations in the period in which they are recognized, it is not expected that such costs will be material to the group’s overall results of operations or financial position or liquidity. See Financial statements – Note 37 on page 158 for the amounts provided in respect of environmental remediation and decommissioning. We are also subject to environmental and common law claims for personal injury and property damage alleging the release or exposure to hazardous substances. A number of proceedings involving governmental authorities are pending or known to be contemplated against BP and certain of its subsidiaries under federal, state or local environmental laws, each of which could result in monetary sanctions of $100,000 or more. No individual proceeding is, nor are the proceedings in aggregate, expected to be material to the group’s results of operations or financial position. We cannot accurately predict the effect of future developments, such as stricter environmental laws or enforcement policies on the group’s operations, products or profitability. A risk of increased environmental costs and operational impacts is inherent in grouping our businesses and there can be no assurance that material liabilities and costs will not be incurred in the future. We believe that the group’s activities are in material compliance with applicable environmental laws and regulations, or that the group has disclosed such non-compliance and is working with the relevant regulatory authorities to ensure compliance. For a discussion of the group’s environmental expenditure see page 57. BP operates in more than 90 countries worldwide. In each of these areas, BP has, or is developing, processes designed to ensure compliance with applicable regulations. In addition, each employee is required to comply with BP health, safety and environmental policies as embedded in the BP code of conduct. Our partners, suppliers and contractors are also encouraged to adopt them. This Environment section focuses primarily on the US and the EU, where around 61% of our fixed assets are located, and on issues of a global nature such as our operations and the environment, climate change programmes and maritime oil spills regulations. Our operations and the environment During 2008, we continued to use environmental management systems to seek improvements on a wide range of environmental issues. Except at two locations, the operations at our major operating sites are covered 43 BP Annual Report and Accounts 2008 Performance review by certification to the ISO 14001 international environmental management system standard. The Texas City refinery, after completing planned work to strengthen its environmental management systems, is planning to seek recertification in 2009. Our Angola business is working towards an expansion of its existing ISO 14001 certificate to include its offshore production facilities by the end of 2009. Progressive implementation of the Operating Management System (OMS), including ISO 14001, will also help us strengthen our management of environmental performance. In support of ongoing risk management, one element of the OMS applies, at least annually, a formal systematic process to identify and assess risks; this process provides to identify emerging issues including those with an environmental impact. To assist us in measuring the effectiveness of our risk mitigation actions we have established environmental metrics, which are available within BP Sustainability Report 2008, at www.bp.com/sustainability. The 2008 information is planned to be available in conjunction with the publication of our 2008 Sustainability Report. After two years of implementation, our Environmental Requirements for New Projects (ERNP) practice has been updated in line with the OMS. We have simplified applicability, clarified the governance process and updated the text to reflect organizational changes. This practice, now called the Environmental Group Defined Practice (GDP) is a full life cycle environmental assessment process. It requires all new major projects and projects in sensitive areas, to undertake screening to determine the potential environmental sensitivities associated with the proposed projects. Requirements and project recommendations now extend to include appropriate considerations for decommissioning of assets. A new project with the highest level of environmental sensitivity requires more rigorous and specific environmental management activities. The board-appointed Safety, Environment and Ethics Assurance Committee reviewed the progress of ERNP during summer 2008. This review included the 12 projects that have been classified as requiring management at the highest level of sensitivity. We are currently integrating social considerations into the Environmental GDP and plan to issue this in 2009 as an integrated set of requirements addressing social and environmental issues. In 2008, BP used the ERNP to review risks and establish mitigation measures prior to entry in connection with the decision to develop adjacent to a Protected Area at Hamble Oil Terminal in the UK. We intend to make a summary of the risk assessment publicly available at the end of April 2009. Our focus on asset decommissioning is demonstrated by the North West Hutton offshore platform project in the North Sea. 2008 saw the topsides of the North West Hutton platform safely brought onshore for further dismantling. This decommissioning is expected to result in 20,000 tonnes of recycled steel, in line with our aim to have 97% of the decommissioned materials recycled and/or reused. We seek to limit the environmental impact of our operations by using resources responsibly and reducing waste and emissions. Climate change programmes In response to rising concerns about climate change, governments continue to identify fiscal and regulatory measures at local, national and international levels. In December 1997, at the Third Conference of the Parties to the United Nations Framework Convention on Climate Change (UNFCCC) in Kyoto, Japan, the participants agreed on a system of differentiated international legally-binding targets for the first commitment period of 2008-2012. In 2005, the Kyoto protocol came into force, committing the 176 participating countries to emissions targets. However, Kyoto was only designed as a first step and policymakers continue to discuss what new agreement might follow it after 2012, most recently at the UNFCCC conference in Poznan, Poland in December 2008. Many of our larger EU stationary assets are subject to the EU Emissions Trading Scheme (EU ETS), which was extended to Norway by 44 reciprocal agreement. After inclusion of our Norwegian assets, around one-fifth of our reported 2008 global CO2 emissions are now covered by this scheme. At the March 2007 European Council, the European Heads of Government decided to adopt their Climate Action and Renewable Energy Package. This legislation was voted through by the European Parliament in December 2008. The package includes a commitment to reduce greenhouse gas (GHG) emissions by 20% by 2020 (the target being 30% if an international agreement is reached), as well as an improved energy efficiency within the EU Member States of 20% by 2020 and a 20% renewable energy target by 2020. The Australian government has set a target to reduce GHG emissions by 60% below 2000 levels by 2050. In December 2008, the Australian government released its Carbon Pollution Reduction Scheme White Paper, outlining the design of an emissions trading scheme that will go into effect in mid-2010; draft legislation is expected in early 2009. The Australian government proposes to cover 70% of emissions sources and sectors via a combination of direct obligations on facilities with large emissions, and obligations on upstream fuel suppliers for the emissions resulting from the combustion of fuel. In December the government also announced 2020 GHG emission targets that range from a 5 to 15% reduction from 2000 levels. The scheme builds on the existing National Greenhouse and Energy Reporting System, the Australian mandatory reporting system for corporate greenhouse gas emissions and energy production and consumption. The first reporting period commenced on 1 July 2008. The US congress continues to propose new climate change legislation and regulation. A new bill became law in December 2007, that includes stricter corporate average fuel emissions standards for automobiles sold in the US and biofuel mandates. Other bills currently under consideration propose stricter emissions limits on large GHG sources and/or the introduction of a cap-and-trade programme on CO2 and other GHG emissions. An April 2007 US Supreme Court decision will require the US Environmental Protection Agency (EPA) to reconsider its determination that it is not required to regulate GHGs from motor vehicles under the Clean Air Act (CAA). The Supreme Court’s ruling is expected to result in the EPA regulating motor vehicle GHG emissions. It is also expected to increase pressure on the EPA to regulate stationary sources of GHGs (e.g. refineries and chemical plants) under other provisions of the CAA. In response to the US Supreme Court’s decision, the EPA issued an Advanced Notice of Proposed Rulemaking (ANPR). The ANPR addresses complexities involved in controlling greenhouse gases under the CAA including potential overlap between future legislation and regulation under the existing CAA. In its Fiscal Year 2008 Consolidated Appropriations Act, US Congress directed the EPA to publish a mandatory GHG reporting rule, issuing a proposed rule within nine months (by September 2008), and a final rule within 18 months (by June 2009). The EPA has developed draft language and the proposed rule could be released early in the new US administration. Congress will likely develop new legislation for GHG regulation, and new regulation under the CAA will likely proceed as well. Additional GHG regulation may also be issued under other laws, such as the National Environmental Protection Act (NEPA) and Endangered Species Act (ESA). In December 2008, the California Air Resources Board (CARB) approved the final Proposed Scoping Plan for implementing Assembly Bill 32, California’s law to reduce GHG emissions to 1990 levels by 2020. Implementation measures are due to be developed by 2012. In advance of the Scoping Plan, CARB has taken early actions with the development of mandatory GHG reporting and a Low Carbon Fuel Standard (LCFS). The LCFS will require all refiners, producers, blenders and importers to reduce the carbon intensity of transport fuel sold in California by 10% by 2020. CARB released draft LCFS regulations in October 2008, with final regulations expected to be taken up in March 2009. BP Annual Report and Accounts 2008 Performance review In March 2008, the Canadian federal government updated its April 2007 Framework Report with an Action Plan to address climate change and reduce emissions 20% below 2006 levels by 2020 and by greater than 60% by 2050, through both a sector approach and domestic development and deployment of new technologies and projects. For the conventional oil and gas industry, the intensity based targets as included in the plan of the April 2007 Framework Report remain likely. For the oil sands industry, more stringent requirements are likely to emerge for upcoming projects that may include requirements for significant reductions, including the implementation of large scale carbon capture and sequestration. Since the conclusion of the recent Canadian and US Federal elections there has been increased discussion on the possibility of aligning regulations, including possible inclusion of a North America wide cap-and-trade system. Since 1997, BP has been actively involved in the policy debate. We also ran a global programme that reduced our operational GHG emissions by 10% between 1998 and 2001. We continue to look at two principal kinds of GHG emissions: operational emissions, which are generated from our operations such as refineries, chemicals plants and production facilities; and product emissions, generated by our customers when they use the fuels and products that we sell. Since 2001, we have been focusing on measuring and improving the carbon intensity of our operations as well as developing sustainable low-carbon technologies and businesses. After seven years, we estimate that our operations have delivered some 7.5 million tonnes (Mte) of GHG reductions. Our 2008 operational GHG emissions were 61.4Mte of CO2 equivalent on a direct equity basis, nearly 2.1Mte lower than the reported figure of 63.5Mte in 2007. The primary reason for the lower reported emissions is a reporting protocol change for BP Shipping (1.9Mte) to align us more closely with industry practice. In 2007, as part of our technology development, two major BP-backed research institutes came into full operation: the Energy Biosciences Institute (EBI) in the US, and the Energy Technologies Institute (ETI) in the UK. The EBI is a strategic partnership between BP, the University of California, Berkeley, the Lawrence Berkeley National Laboratory and the University of Illinois, Urbana-Champaign to conduct research into the production of new and cleaner energy, initially focusing on advanced biofuels for road transport. The EBI will also pursue bioscience-based research into the conversion of heavy hydrocarbons to clean fuels, improved recovery from existing oil and gas reservoirs and carbon sequestration. In the UK, the ETI has been established as a 50:50 public private partnership, funded equally by member companies, including BP, and the government. The ETI aims to accelerate the development, demonstration and eventual commercial deployment of a focused portfolio of energy technologies, which will increase energy efficiency, reduce GHG emissions and help achieve energy security and climate change goals. The ETI has issued its first invitation for expressions of interest to participate in programmes to develop new technologies for offshore wind and for marine, tidal and wave energy. BP established the Carbon Mitigation Initiative in 2000 at Princeton University in the US to research the fundamental scientific, environmental, and technological issues that will determine how carbon is managed in the future and examine the policy impact of different options. BP’s original 10-year commitment initially funded the programme at $1.5 million per year and later increased it to more than $2 million per year. In October 2008, BP committed to a five-year renewal of the partnership and to support Princeton to at least its current level of funding for the years 2011 to 2015. Maritime oil spill regulations Within the US, the Oil Pollution Act of 1990 (OPA 90) imposes oil spill prevention and planning requirements liability for tankers and barges transporting oil and for offshore facilities such as platforms and onshore terminals. To ensure adequate funding for oil spill response and compensation, OPA 90 created the Oil Spill Liability Trust Fund that is financed by a tax on imported and domestic oil. In 2006, the Coast Guard and Maritime Transportation Act 2006, increased the size of the fund from the original amount of $1 billion to $2.7 billion. In late 2008, as part of the Emergency Economic Stabilization Act, further amendments were made to increase the per-barrel contribution rate of tax and to remove the provision for cessation of the tax when the fund reached $2.7 billion. There is now no limit on the size of the fund. The same 2008 legislation amended the termination date of this tax from 31 December 2014 to 31 December 2017. The 2006 legislation also increased the OPA limitation amount relating to the liability of double-hulled tankers from $1,200 per gross tonne to $1,900 per gross tonne. In addition to the spill liabilities imposed by OPA 90 on the owners and operators of carrying vessels, some states, including Alaska, Washington, Oregon and California, impose additional liability on the shippers or owners of oil spilled from such vessels. The exposure of BP to such liability is mitigated by the vessels’ marine liability insurance, which has a maximum limit of $1 billion for each accident or occurrence. OPA 90 also provides that all new tank vessels operating in US waters must have double hulls and existing tank vessels without double hulls must be phased out by 2015. At the end of 2008, BP owned four double-hulled tankers built between 2004 and 2006, demise- chartered to and operated by Alaska Tanker Company, L.L.C. (ATC), which transports BP Alaskan crude oil from Valdez. Outside of US territorial waters, the BP-operated fleet of tankers is subject to international spill response and preparedness regulations that are typically promulgated through the International Maritime Organization (IMO) and implemented by the relevant flag state authorities. The International Convention for the Prevention of Pollution from Ships (Marpol 73/78) requires vessels to have detailed shipboard emergency and spill prevention plans. The International Convention on Oil Pollution, Preparedness, Response and Co-operation requires vessels to have adequate spill response plans and resources for response anywhere the vessel travels. These conventions and separate Marine Environmental Protection Circulars also stipulate the relevant state authorities around the globe that require engagement in the event of a spill. All these requirements together are addressed by the vessel owners in Shipboard Oil Pollution Emergency Plans. BP Shipping’s liabilities for oil pollution damage under the OPA 90 and outside the US under the 1969/1992 International Convention on Civil Liability for Oil Pollution Damage (CLC) are covered by marine liability insurance, having a maximum limit of $1 billion for each accident or occurrence. This insurance cover is provided by three mutual insurance associations (P&I Clubs): The United Kingdom Steam Ship Assurance Association (Bermuda) Limited; The Britannia Steam Ship Insurance Association Limited; and The Standard Steamship Owners’ Protection and Indemnity Association (Bermuda) Limited. With effect from 20 February 2006, two new complementary voluntary oil pollution compensation schemes were introduced by tanker owners, supported by their P&I Clubs, with the agreement of the International Oil Pollution Compensation Fund at the IMO. Pursuant to both these schemes, tanker owners will voluntarily assume a greater liability for oil pollution compensation in the event of a spill of persistent oil than is provided for in CLC. The first scheme, the Small Tanker Owners’ Pollution Indemnification Agreement (STOPIA), provides for a minimum liability of 20 million Special Drawing Rights (around $30 million) for a ship at or below 29,548 gross tonnes, while the second scheme, the Tanker Owners’ Pollution Indemnification Agreement (TOPIA), provides for the tanker owner to take a 50% stake in the 2003 Supplementary Fund, that is, an additional liability of up to 273.5 million Special Drawing Rights (around $405 million). Both STOPIA and TOPIA will only apply to tankers whose owners are party to these agreements and who have entered their ships with P&I Clubs in the International Group of P&I Clubs, so benefiting from those clubs’ pooling and reinsurance arrangements. All BP Shipping’s managed and time- chartered vessels participate in STOPIA and TOPIA. For information regarding maritime security issues, see Shipping on page 39. 45 i w e v e r e c n a m r o f r e P BP Annual Report and Accounts 2008 Performance review US The following is a summary of significant US environmental issues and environment and health and safety legislation or regulations affecting BP. The CAA and its regulations, administered by the United States disposed and certain other parties are strictly liable for the cost of responding to related hazardous substance contamination. EPA administers CERCLA. Additionally, states have separate laws similar to CERCLA. Environmental Protection Agency (EPA) require, among other things: stringent air emission limits and operating permits for chemicals plants, refineries, marine and distribution terminals and exploration and production facilities, strict fuel specifications and sulphur reductions; enhanced monitoring of major sources of specified pollutants; and risk management plans for storage of hazardous substances. This law affects BP facilities producing, storing, refining, manufacturing and distributing oil and products as well as the fuels themselves. Federal and state controls on ozone, particulate matter, carbon monoxide, benzene, sulphur, MTBE, nitrogen dioxide, oxygenates, lead and Reid Vapor Pressure affect BP’s activities and products. Under the CAA all gasoline produced by BP is subject to the EPA’s stringent low-sulphur standards. By June 2006, at least 80% of the highway diesel fuel produced each year by BP was required to meet a sulphur cap of 15 parts per million (ppm). By June 2007, all non-road locomotive and marine diesel fuel produced each year by BP was required to meet a sulphur cap of 500ppm. Additionally, states have separate laws similar to the CAA. The Energy Policy Act of 2005 affects the US fuels market by: eliminating the Federal Reformulated Gasoline (RFG) oxygen requirement in May 2006; establishing a renewable fuels mandate (4 billion gallons in 2006, increasing to 7.5 billion in 2012); consolidating the summertime RFG volatile organic compound (VOC) standards for EPA Regions 1 and 2; allowing the Ozone Transport Commission states on the east coast to opt any area into RFG; and allowing states to repeal the 1psi Reid Vapor Pressure waiver for 10% ethanol blends. The Energy Independence and Security Act of 2007 increased the renewable fuel mandate to 9 billion gallons in 2008 and further each year to a maximum of 36 billion gallons in 2022. In 2001, BP entered into a consent decree with the EPA and several states that settled alleged violations of various CAA requirements related largely to emissions of sulphur dioxide and nitrogen oxides at BP’s US refineries. Implementation of the decree’s requirements continues. In 2001, BP’s US refineries entered into a civil consent decree with the EPA to resolve alleged violations of the CAA. The decree applies to all the US refineries of BP Products North America Inc. (BP Products). On 19 February 2009, the EPA and US Department of Justice (DOJ) lodged an amendment to the 2001 decree. The amendment applies only to the Texas City refinery and resolves alleged violations of both the 2001 decree and the CAA. The decree requires that BP Products pays a $12 million civil fine, funds a $6 million supplemental environmental project and takes steps at the Texas City refinery to enhance compliance with CAA rules. The estimated cost of these compliance measures is approximately $150 million. The decree amendment is subject to court approval. The Clean Water Act (CWA) and its regulations, administered by EPA and the US Coast Guard, regulate the discharge of wastewater, stormwater and toxic discharges from BP’s onshore and offshore operations to navigable waters. Facilities are required to obtain discharge permits, install control equipment and implement operational controls and preventative measures. Additionally, states have separate laws similar to the CWA. The Resource Conservation and Recovery Act (RCRA) and its regulations, administered by the EPA, regulate the storage, handling, treatment, transportation and disposal of hazardous and non-hazardous wastes and require the investigation and remediation of locations at a facility where such wastes have been managed. Many BP facilities generate and manage wastes regulated by RCRA and several include locations that are subject to investigation and corrective action. Additionally, states have separate laws similar to RCRA. Under the Comprehensive Environmental Response, Compensation and Liability Act (CERCLA or Superfund), persons who arranged to dispose of hazardous substances at a site, persons who currently own or operate a site where such substances have been 46 BP has been identified as a Potentially Responsible Party (PRP) under CERCLA or otherwise named under similar state statutes at approximately 809 sites. A PRP or named party can incur joint and several liability for site remediation costs under some of these statutes and so BP may be required to assume, among other costs, the share attributed to insolvent, unidentified or other parties. BP has the most significant exposure for remediation costs at 50 of these sites. For the remaining sites, BP is one of many potentially responsible parties, and BP expects its share of remediation costs at these sites to be small in comparison with the major sites. BP has estimated its potential exposure at all sites where it has been identified as a PRP or is otherwise named at a site is approximately $1.7 billion. BP is also subject to claims for natural resource damages (NRD) under CERCLA, the OPA 90 and other federal and state laws. NRD claims have been asserted by government trustees against a number of BP operations. Many environmental clean-ups are driven by state and federal groundwater protection standards. Contamination or the threat of contamination of current or potential potable (and occasionally non- potable) water resources can result in stringent clean-up requirements. BP has encouraged risk-based approaches to these issues and seeks to tailor remedies at its facilities to match the level of risk presented by the contamination. Other legislation that significantly affect BP operations includes: the Toxic Substances Control Act, administered by EPA, which regulates the development, testing, import, export and introduction of new chemical products into commerce; the Occupational Safety and Health Act, administered by the Occupational Safety and Health Administration, which imposes workplace safety and health, training and process safety requirements to reduce the risks of physical and chemical hazards and injury to employees; the CAA, which created the US Chemical Safety and Hazard Investigation Board which investigates the causes of chemical accidents and makes non-binding recommendations to industry, government and non-governmental organizations; and the Emergency Planning and Community Right-to-Know Act, administered by the EPA, which requires emergency planning and hazardous substance release notification as well as public disclosure of chemical usage and emissions. In addition, the US Department of Transportation (DOT) regulates the transportation of the BP’s petroleum products such as crude oil, gasoline and chemicals. BP is subject to the Marine Transportation Security Act (MTSA) and regulations and the DOT Hazardous Materials (HAZMAT) security compliance regulations. These regulations require many of BP’s businesses to conduct security vulnerability assessments and prepare security mitigation plans that require upgrades to security measures, the appointment and training of security personnel and the submission of plans for approval and inspection by government agencies. The US government through the Department of Homeland Security, in an effort to further mitigate the threat of terrorism to critical US infrastructure, has implemented two new security legislation initiatives, that began in 2007 and has continued through 2008: • Chemical Facility Anti-Terrorism Standard (CFATS). • Transportation Workers Identification Credential (TWIC). CFATS is intended to provide an enhanced security posture for US facilities that manufacture or store Chemicals of Interest, including gasoline. Additionally, in the future, it will cover facilities that have national economic impact to the US, should these facilities be a target for terrorism. A number of BP facilities may be required to conduct a detailed security vulnerability assessment and a detailed security plan for each facility impacted. TWIC requires all designated personnel with unescorted access to restricted areas of MTSA designated facilities to submit to a background screening programme and to obtain a biometric identification card. All of BP Annual Report and Accounts 2008 Performance review BP’s MTSA-regulated facilities will be impacted and will be required to comply by the end of 2008 or beginning of 2009 in a phased approach. The BP Americas Response Team consists of approximately 210 trained emergency responders at BP locations throughout North America. In addition, there are five Regional Response Incident Management Teams, a number of HAZMAT Teams and emergency response teams at BP’s major facilities. Collectively, these teams are ready to assist in a response to a major incident. In 2008, BP Products obtained and renewed environmental permits that enabled it to commence construction on the project to upgrade the Whiting refinery. Various environmental groups have challenged these permits in state and federal proceedings. In November 2007, the EPA began issuing a series of notices of violations, alleging clean air act violations, to the Whiting, Toledo, Carson and Cherry Point refineries. Settlement negotiations continue between BP Products, the EPA and the DOJ in an effort to resolve these matters. In October 2008, the EPA issued an amended notice of violation alleging that BP Products began construction on the Whiting upgrade in 2005 prior to receiving the necessary permits. This allegation has been incorporated into the permit challenges filed by the environmental groups. The subject matter of the notices of violation could be resolved as an amendment to the 2001 EPA consent decree or as a separate matter. See also Legal proceedings on page 92. European Union The following is a summary of significant EU level environmental legislation and UK health and safety legislation affecting BP. At the March 2007 European Council, the European Heads of Government decided to adopt: • a commitment to reduce GHG emissions by at least 20% by 2020 as compared with 1990 levels and the objective of a 30% reduction by 2020, subject to the conclusion of a comprehensive international climate change agreement; and contributing to the achievement of the targets set in the EC’s Thematic Strategies on Air, Soil and Waste. The proposal merges and revises several separate directives related to industrial emissions (including the Large Combustion Plant Directive) into one Directive. It proposes tighter minimum standards for emissions from large combustion plant (>50MW), and introduces a mandatory requirement to achieve emission limit values indicated by use of ‘Best Available Techniques’ (with derogations from this requirement allowed where justified). The proposal would also extend the scope of IPPC to specifically cover organic chemical manufacture by biological treatment (biofuels) and may open the way for NOx and SOx trading by member states. The EC proposal has triggered considerable debate and the timetable for the completion of the legislative process and the likely outcome are not clear. However, the revision has already triggered a greater focus on the information sharing process that is used to determine and document the BAT for each industry sector, and will raise the profile of the outputs from this process – the BAT Reference Documents (BREFs). In 2005, the EC published its Thematic Strategy on Air Pollution, which outlines EU-wide targets for health and environmental benefits from improved air quality to be achieved through further controls on emissions of fine particulates (PM 2.5 – particulate matter less than 2.5 microns diameter), sulphur dioxide, oxides of nitrogen, volatile organic compounds and ammonia. Associated with this is the revision to the National Emissions Ceiling Directive (NECD), which would introduce new emissions ceilings for each member state for fine particles and tighten existing ceilings for sulphur dioxide, oxides of nitrogen, volatile organic compounds and ammonia. There is currently uncertainty regarding the costs to industry of implementing possible outcomes from the NECD and IPPC revisions. The proposed revision of the current EU Fuel Quality Directive is referred to in the Climate Change Programmes section above. In addition to its provisions regarding life cycle GHG emission reductions, it would also facilitate the introduction of biofuels into gasoline and diesel. • a mandatory EU target of 20% renewable energy by 2020 including a Registration, Evaluation and Authorization of Chemicals (REACH) 10% biofuels target. In December 2008, the European Parliament approved the ‘Climate Action and Renewable Energy Package’, which: • revises the EU’s Emissions Trading System to establish auctioning of emission allowances from 2013; • sets binding national targets for each EU member state; • equips power plants to capture and store CO2 underground; • sets mandatory national targets for each EU member state with the goal of delivering 20% renewable energy target by 2020; and • provides for a revised Fuel Quality Directive requiring fuel suppliers to reduce the life cycle emission of the fuels they provide by up to 10% by 2020. BP was involved at the highest levels in the preparation of the ‘Climate Action and Renewable Energy Package’, as part of our efforts to actively contribute to the formulation of energy security and climate change policy in the EU. An EC directive for a system of integrated pollution prevention and control (IPPC) was adopted in 1996. This system requires certain listed industrial installations, including most activities and processes undertaken by the oil and petrochemicals industry within the EU, to obtain an IPPC permit, which is designed to address an installation’s environmental impacts, air emissions, water discharges and waste in a comprehensive and integrated fashion. The permit requires, among other things, the application of Best Available Techniques (BAT), taking into account the costs and benefits, unless an applicable environmental quality standard requires more stringent restrictions, and an assessment of existing environmental impacts and future site closure obligations. All such plants had to obtain such a permit by 30 October 2007 and permits included an environmental improvement programme where necessary. In December 2007, the EC issued a proposal for the revision to legislation became effective 1 June 2007 across all member states of the EU. All chemical substances manufactured within, or imported into, the EU in quantities above 1 tonne per annum must be registered fully by each manufacturer/importer with the new European Chemical Agency (ECHA). Failure to comply with REACH in respect of such a substance will immediately remove a company’s legal right to manufacture or import that substance. Initially all existing manufactured and imported substances had to be pre-registered by 1 December 2008, to qualify for a timed phase-in for full registration during the period 2010-2018, with the exact timing being determined by the volumes of chemicals manufactured/imported, and by the health, safety and environmental hazards the chemical may possess. Failure to pre-register an existing chemical will result in an immediate requirement to register fully the chemical with the ECHA prior to continued manufacture within, or import into, the EU. Time-limited authorizations may be granted for substances of ‘high concern’ and in some cases restrictions in use may apply. Crude oil and natural gas are exempt from registration requirements, while fuels are exempt from authorization but not registration. In BP, REACH affects our refining, petrochemicals and other chemical manufacturing operations, with many other businesses, such as lubricants, also being impacted in their roles as major importers and downstream users of chemicals. In 2008, BP submitted around 700 pre-registrations, covering approximately 250 individual chemical substances. For almost 60% of these, ‘full’ registration dossiers must be submitted to ECHA by 1 December 2010, the balance being required in the period 2013-2018. Total REACH registration fees to be incurred by BP’s businesses are estimated to be in the region of $15 million and these contribute to an estimated overall cost of $60 million during the period 2008-2018 for pre registration, registration and provision of additional testing requirements. In the UK, significant health and safety legislation affecting BP the IPPC Directive with the aims of streamlining legislation on industrial emissions, improving the implementation of BATs across Europe, and includes the Health and Safety at Work Act and regulations made thereunder and the Control of Major Accident Hazards Regulations. 47 i w e v e r e c n a m r o f r e P BP Annual Report and Accounts 2008 Performance review Employees Number of employees at 31 December 2008 Exploration and Production Refining and Marketing Other businesses and corporate 2007 Exploration and Production Refining and Marketing Other businesses and corporatea 2006 Exploration and Production Refining and Marketing Other businesses and corporate UK Rest of Europe US Rest of World 3,600 9,000 3,300 15,900 3,800 9,700 3,500 17,000 3,600 10,200 3,100 16,900 700 18,000 700 19,400 700 18,400 800 19,900 1,000 18,600 600 20,200 7,700 19,000 2,600 29,300 7,800 22,700 2,500 33,000 7,600 23,800 2,300 33,700 9,400 15,500 2,500 27,400 9,500 16,400 2,300 28,200 9,200 15,400 1,600 26,200 Total 21,400 61,500 9,100 92,000 21,800 67,200 9,100 98,100 21,400 68,000 7,600 97,000 aA minor amendment has been made to the comparative figure for Rest of the World to correct headcount data. People and their capabilities are fundamental to our sustainability as a business. To build an enduring business in an increasingly complex and competitive industry, we need people with world-class capabilities, ranging from deepwater drilling and operating refineries to negotiating with governments and planning wind farms. Our 2008 focus has been on reducing complexity and embedding the performance culture throughout the company. We have implemented structured transformational programmes in a number of strategic performance units (SPUs) and the major functions. We have stopped activity that was being repeated at multiple layers, removed layers of management and have established the SPUs as the principal units of delivery. There is a greater focus on individual performance management. We have simplified the performance management process and can clearly identify and reward top performing businesses and individuals. Our incentive plans provide a direct link between SPU performance, the individual’s contribution, and the bonus outcome. We had approximately 92,000 employees at 31 December 2008, In 2008, a global diversity and inclusion (D&I) council was established. This council, chaired by Tony Hayward, is supported by a North American regional council and segment councils. The aim is to harmonize processes and tools for managing D&I across all Segments and Functions. Responsibility for delivering D&I plans sits at the business/SPU level. The group people committee, formed in 2007, continues to take overall responsibility for policy decisions relating to employees. In 2008, these ranged from senior level talent review and succession planning, embedding of diversity and inclusion plans in the businesses and the structure of long-term incentive plans. We continue to increase the number of local leaders and employees in our operations so that they reflect the communities in which we operate. For example, in Colombia, national employees now make up 98% of BP’s team, while in Azerbaijan, the equivalent proportion is 83%. By 2020, more than half our operations are expected to be in non-OECD countries and we see this as an opportunity to develop a new generation of experts and skilled employees. compared with approximately 98,100 at 31 December 2007. At the end of 2008, 14% of our top 583 leaders were female and In managing our people, we seek to attract, develop and retain highly talented individuals in order to maintain BP’s capability to deliver our strategy and plans. Our three-year graduate development programme currently has 1,200 participants from all over the world. We are focusing on the need for deep specialist skills. Accordingly, we have increased external hiring in infrastructure and technical areas. The energy industry faces a shortage of professionals such as petroleum engineers. The number of experienced workers retiring is expected to exceed that of new graduate hires. To help address this issue we are developing more robust resourcing plans supported by initiatives aimed at increasing the numbers of recruits and diversifying the sources from which we recruit. The external hiring initiatives are supported by plans for accelerated discipline development, prioritized deployment and retention schemes. The continuous improvement we are making to performance management and reward will help ensure that BP meets the expectations of these new recruits who are highly mobile and are more conscious that they have a choice about where to work. Our policy is to ensure equal opportunity in recruitment, career development, promotion, training and reward for all employees, including those with disabilities. Where existing employees become disabled, our policy is to provide continuing employment and training wherever practicable. 48 19% came from countries other than the UK and the US. When we started tracking the composition of our group leadership in 2000, these percentages were 9% and 14% respectively. We continue to raise our senior level leaders’ awareness of D&I, and further training is planned in 2009. We aim to develop our leaders internally, although we recruit outside the group when we do not have specialist skills in-house or when exceptional people are available. In 2008, we appointed 73 people to positions in the group leadership population. Of these, 39 were internal candidates. We provide development opportunities for our employees, including training courses, international assignments, mentoring, team development days, workshops, seminars and online learning. We encourage all employees to take five training days per year. A leadership, development and learning steering group was set up in 2008. This body of senior executives has responsibility for guiding and advising on leadership and management development. As part of this, the steering group oversees the Managing Essentials programme, which was successfully rolled out in 2007. Through our award-winning ShareMatch plan, run in more than 70 countries, we match BP shares purchased by employees. BP Annual Report and Accounts 2008 Performance review Communications with employees include magazines, intranet sites, DVDs, targeted emails and face-to-face communication. Team meetings are the core of our employee consultation, complemented by formal processes through works councils in parts of Europe. These communications, along with training programmes, are designed to contribute to employee development and motivation by raising awareness of financial, economic, social and environmental factors affecting our performance. The group seeks to maintain constructive relationships with labour unions. ‘Pulse’ surveys conducted in 2008 among samples of employees indicated that BP’s safety culture is growing but that overall satisfaction levels have fallen. The surveys also revealed that more work needs to be done to ensure all employees fully understand what they need to do to deliver sustainable high performance. We continue to make significant efforts to communicate the intent and progress of the forward agenda to reduce the potential negative impacts of this change on the business. We have moved quickly, but our management of change practices keep the focus on safety and ensure that the changes are sustainable. These improvements are expected to continue in 2009, but we have already delivered material reductions in activity, cost and headcount. The code of conduct We have a code of conduct designed to ensure that all employees comply with legal requirements and our own standards. The code defines what BP expects of its people in key areas such as safety, workplace behaviour, bribery and corruption and financial integrity. Our employee concerns programme, OpenTalk, enables employees to seek guidance on the code of conduct as well as to report suspected breaches of compliance or other concerns. The number of cases raised through OpenTalk in 2008 was 925, compared with 973 in 2007. In the US, former US district court judge Stanley Sporkin acts as an ombudsperson. Employees and contractors can contact him confidentially to report any suspected breach of compliance, ethics or the code of conduct, including safety concerns. We take steps to identify and correct areas of non-compliance and take disciplinary action where appropriate. In 2008, 765 dismissals were reported by BP’s businesses for non-compliance or unethical behaviour. This number excludes dismissals of staff employed at our retail service station sites, for incidents such as thefts of small amounts of money. BP continues to apply a policy that the group will not participate directly in party political activity or make any political contributions, whether in cash or in kind. BP specifically made no donations to UK or other EU political parties or organizations in 2008. Social and community issues Contributing to communities We aim to make a difference in the communities where we operate in a manner that brings benefits to BP as well as the local society. Investment in education, for example, promotes sustainable development as well as providing skilled workers for BP and other companies. Support for local enterprise drives economic growth as well as helping local companies qualify as our suppliers. BP operates in a diverse range of locations with varying levels of economic and national development. We contribute to communities in ways that are relevant to local circumstances, and which offer opportunities for mutual benefit to our business. Given the scale of our business, our impact often reaches beyond the local community to the national and, in some cases, the international level. We support education because it creates opportunities for communities, while at the same time providing skills that are critical to BP business and the wider industry. Our interventions in education are diverse and wide-ranging. We help fund a range of educational programmes, from early years learning to advanced university research, building skills and capability in communities as well advancing knowledge on issues such as climate change and effective economic management of natural resource rich countries. In further and higher education, a major driver for our involvement is the need to encourage more people to develop the particular skills needed for the energy industry. In supporting school education, BP looks to develop children’s awareness of links between energy and the environment as well as stimulating interest in science and engineering. In addition to its investment in the formal learning system, BP supports public education on specific pressing social issues when there is a particular need within a local community. Through training and financing programmes, BP seeks to support the development of local suppliers by building their skills, sharing internal standards and practice and stimulating business development. This enables greater participation in the supply chain by local business and greater competitiveness overall. We support several initiatives designed to promote the effectiveness of natural resource led national development. Through the support of the Oxford Centre for the Analysis of Resource Rich Economies, we seek to improve the understanding of the development challenges and policy options available to emerging economies that are rich in natural resources such as oil and gas. We remain a member of the Extractive Industries Transparency Initiative (EITI), which supports the creation of a standardized process for transparent reporting of company payments and government revenues from oil, gas and mining. In the US, amongst various other initiatives in 2008, we provided more than $17 million to assist with relief and recovery efforts for the wider community following Hurricanes Ike and Gustav in the Gulf of Mexico. We make direct contributions to communities through community programmes. Our total contribution in 2008 was $125.6 million. This included $0.2 million contributed by BP to UK charities. The growing focus of this is on education, the development of local enterprise and providing access to energy in remote locations. In 2008, we spent $59.5 million promoting education, with investment in three broad areas: energy and the environment; business leadership skills; and basic education in developing countries where we operate large projects. Essential contracts BP has contractual and other arrangements with numerous third parties in support of its business activities. This report does not contain information about any of these third parties as none of our arrangements with them are considered to be essential to the business of BP. Property, plants and equipment BP has freehold and leasehold interests in real estate in numerous countries, but no individual property is significant to the group as a whole. See Exploration and Production on page 17 for a description of the group’s significant reserves and sources of crude oil and natural gas. Significant plans to construct, expand or improve specific facilities are described under each of the business headings within this section. Organizational structure The significant subsidiaries of the group at 31 December 2008 and to the group percentage of ordinary share capital (to the nearest whole number) are set out in Financial statements – Note 46 on page 175. See Financial statements – Notes 26 and 27 on pages 140 and 141 respectively for information on significant jointly controlled entities and associates of the group. 49 i w e v e r e c n a m r o f r e P BP Annual Report and Accounts 2008 Performance review Financial and operating performance Group operating results The following summarizes the group’s operating results. Total revenuesa Profit from continuing operationsa Profit for the year Profit for the year attributable to BP shareholders Profit attributable to BP shareholders per ordinary share – cents Dividends paid per ordinary share – cents $ million except per share amounts 2008 365,700 21,666 21,666 21,157 112.59 55.05 2007 288,951 21,169 21,169 20,845 108.76 42.30 2006 270,602 22,311 22,286 22,000 109.84 38.40 aExcludes Innovene, which was treated as a discontinued operation in accordance with IFRS 5 ‘Non-current Assets Held for Sale and Discontinued Operations’ in 2004, 2005 and 2006. Hydrocarbon production Our total hydrocarbon production during 2008 averaged 2,517mboe/d for subsidiaries and 1,321mboe/d for equity accounted-entities, a decrease of 1.2% (a decrease of 3.1% for liquids and an increase of 0.7% for gas) and an increase of 4.0% (an increase of 2.5% for liquids and an increase of 14.8% for gas) respectively compared with 2007. In aggregate, after adjusting for the effect of lower entitlement in our PSAs, production was 5% higher than 2007. This reflected strong performance from our existing assets, the continued ramp-up of production following the start up of major projects in late-2007 and a further nine major project start ups in 2008. Our total hydrocarbon production during 2007 averaged 2,549mboe/d for subsidiaries and 1,269mboe/d for equity-accounted entities, a decrease of 3% (3.5% for liquids and 2.6% for gas) and 2% (1.3% for liquids and 8.4% for gas) respectively compared with 2006. In aggregate, the decrease primarily reflected the effect of disposals and net entitlement reductions in our PSAs. Profit attributable to BP shareholders Profit attributable to BP shareholders for the year ended 31 December 2008 was $21,157 million, including inventory holding losses, net of tax, of $4,436 million and a net charge for non-operating items, after tax, of $796 million. In addition, fair value accounting effects had a favourable impact, net of tax, of $146 million relative to management’s measure of performance. Inventory holdings gains or losses, net of tax, are described in footnote (a) on the following page. Further information on non- operating items and fair value accounting effects can be found on page 55. Profit attributable to BP shareholders for the year ended 31 December 2007 was $20,845 million, including inventory holding gains, net of tax, of $2,475 million and a net charge for non-operating items, after tax, of $373 million (see page 56). In addition, fair value accounting effects had an unfavourable impact, net of tax, of $198 million (see page 56) relative to management’s measure of performance. Profit attributable to BP shareholders for the year ended 31 December 2006 was $22,000 million, including inventory holding losses, net of tax, of $222 million and a net credit for non-operating items, after tax, of $1,237 million (see page 56). In addition, fair value accounting effects had a favourable impact, net of tax, of $72 million (see page 56) relative to management’s measure of performance. The profit attributable to BP shareholders for the year ended 31 December 2006 included a loss from Innovene operations of $25 million. Business environment Crude oil prices reached new record highs in 2008, in nominal terms. The average dated Brent price for the year rose to $97.26 per barrel, an increase of 34% over the $72.39 per barrel average seen in 2007. Daily prices began the year at $96.02 per barrel, peaked at $144.22 per barrel on 3 July 2008, and fell to $36.55 per barrel at year-end. The sharp drop in prices was due to falling demand in the second half of the year, caused by the OECD falling into recession and the lagged effect on demand of high prices in the first half of the year. OPEC had increased production significantly through the first three quarters; and, as a result of falling consumption and rising OPEC production, inventories rose. As prices continued to decline, OPEC responded with successive announcements of production cuts in September, October, and December. Natural gas prices in the US and the UK increased in 2008. The Henry Hub First of Month Index averaged $9.04/mmBtu, 32% higher than the 2007 average of $6.86/mmBtu. Prices peaked at $13.11/mmBtu in July amid robust demand and falling US gas imports, but fell to $6.90/mmBtu in December as demand weakened and production remained strong. Average UK gas prices rose to 58.12 pence per therm at the National Balancing Point in 2008, 94% above the 2007 average of 29.95 pence per therm. Refining margins fell back in 2008, with the BP Global Indicator Margin (GIM) averaging $6.50 per barrel. The premium for light products above fuel oils remained high, reflecting a continuing shortage of upgrading capacity and the favouring of fully upgraded refineries over less complex sites. The retail environment continued to be extremely competitive in 2008 with market volatility, high absolute prices, as well as large price shifts in the crude market. In 2007, the average dated Brent price rose to $72.39 per barrel, an increase of 11% over the $65.14 per barrel average seen in 2006. Daily prices began the year at $58.62 per barrel and rose to $96.02 per barrel at year-end due to OPEC production cuts in early 2007, sustained consumption growth and a resulting drop in commercial inventories after the summer. Natural gas prices in the US and the UK declined in 2007. The Henry Hub First of Month Index averaged $6.86/mmBtu, 5% lower than the 2006 average of $7.24/mmBtu. Prices were pressured by strong LNG imports in summer, continued domestic production growth and high inventories. Average UK gas prices fell to 29.95 pence per therm at the National Balancing Point in 2007, 29% below the 2006 average of 42.19 pence per therm. Refining margins had reached a new record high in 2007, with the BP Global Indicator Margin (GIM) averaging $9.94 per barrel. The premium for light products above fuel oils remained exceptionally high, reflecting a shortage of upgrading capacity and the favouring of fully upgraded refineries over less complex sites. 50 BP Annual Report and Accounts 2008 Performance review The primary additional factors reflected in profit for 2008, compared with 2007, were higher realizations, a higher contribution from the gas marketing and trading business, improved oil supply and trading performance, improved marketing performance and strong cost management; however, these positive effects were partly offset by weaker refining margins, particularly in the US, higher production taxes, higher depreciation, and adverse foreign exchange impacts. The primary additional factors reflected in profit for 2007, compared with 2006, were higher liquids realizations, stronger refining and marketing margins and improved NGLs performance; however, these were more than offset by lower gas realizations, lower reported production volumes, higher production taxes in Alaska, higher costs (primarily reflecting the impact of sector-specific inflation and higher integrity spend), the impact of outages and recommissioning costs at the Texas City and Whiting refineries, reduced supply optimization benefits and a lower contribution from the marketing and trading business. Profits and margins for the group and for individual business segments can vary significantly from period to period as a result of changes in such factors as oil prices, natural gas prices and refining margins. Accordingly, the results for the current and prior periods do not necessarily reflect trends, nor do they provide indicators of results for future periods. Employee numbers were approximately 92,000 at 31 December 2008, 98,100 at 31 December 2007 and 97,000 at 31 December 2006. a Inventory holding gains and losses represent the difference between the cost of sales calculated using the average cost to BP of supplies incurred during the year and the cost of sales calculated on the first-in first-out (FIFO) method including any changes in provisions where the net realizable value of the inventory is lower than its cost. Under the FIFO method, which we use for IFRS reporting, the cost of inventory charged to the income statement is based on the historic cost of acquisition or manufacture rather than the current replacement cost. In volatile energy markets, this can have a significant distorting effect on reported income. The amounts disclosed represent the difference between the charge to the income statement on a FIFO basis (and any related movements in net realizable value provisions) and the charge that would arise using average cost of supplies incurred during the period. For this purpose, average cost of supplies incurred during the period is calculated by dividing the total cost of inventory purchased in the period by the number of barrels acquired. The amounts disclosed are not separately reflected in the financial statements as a gain or loss. No adjustment is made in respect of the cost of inventories held as part of a trading position and certain other temporary inventory positions. Management believes this information is useful to illustrate to investors the fact that crude oil and product prices can vary significantly from period to period and that the impact on our reported result under IFRS can be significant. Inventory holding gains and losses vary from period to period due principally to changes in oil prices as well as changes to underlying inventory levels. In order for investors to understand the operating performance of the group excluding the impact of oil price changes on the replacement of inventories, and to make comparisons of operating performance between reporting periods, BP’s management believes it is helpful to disclose this information. i w e v e r e c n a m r o f r e P Capital expenditure and acquisitions Exploration and Production Refining and Marketing Other businesses and corporate Capital expenditure Acquisitions and asset exchanges Disposals Net investment 2008 22,026 4,710 1,450 28,186 2,514 30,700 (929) 29,771 2007 13,904 4,356 934 19,194 1,447 20,641 (4,267) 16,374 $ million 2006 13,209 3,105 596 16,910 321 17,231 (6,254) 10,977 Capital expenditure and acquisitions in 2008, 2007 and 2006 amounted to $30,700 million, $20,641 million and $17,231 million respectively. In 2008, this included $4,731 million in respect of our transaction with Husky Energy Inc. and $3,667 million in respect of our purchase of all Chesapeake Energy Corporation’s interest in the Arkoma Basin Woodford Shale assets and the purchase of a 25% interest in Chesapeake’s Fayetteville Shale assets. Acquisitions in 2007 included the remaining 31% of the Rotterdam (Nerefco) refinery from Chevron’s Netherlands manufacturing company. Excluding acquisitions and asset exchanges, capital expenditure for 2008 was $28,186 million compared with $19,194 million in 2007 and $16,910 million in 2006. In 2006, this included $1 billion in respect of our investment in Rosneft. Finance costs and net finance income relating to pensions and other post-retirement benefits Finance costs comprises group interest less amounts capitalized, and interest accretion on provisions and long-term other payables. Finance costs for continuing operations in 2008 were $1,547 million compared with $1,393 million in 2007 and $986 million in 2006. The increase in 2008, when compared with 2007, is largely the outcome of reductions in capitalized interest as capital construction projects concluded. The increase in 2007, when compared with 2006, reflected a higher average gross debt balance and lower capitalized interest as capital construction projects concluded. Net finance income relating to pensions and other post-retirement benefits in 2008 was $591 million compared with $652 million in 2007 and $470 million in 2006. The expected return on assets has increased year on year as the pension asset base applicable to each year increased, but this has been offset in 2008 by higher interest costs reflecting the increase in discount rates applied to pension plan liabilities. Taxation The charge for corporate taxes for continuing operations in 2008 was $12,617 million, compared with $10,442 million in 2007 and $12,331 million in 2006. The effective rate was 37% in 2008, 33% in 2007 and 36% in 2006. The group earns income in many countries and, on average, pays taxes at rates higher than the UK statutory rate of 28% for 2008. The increase in the effective rate in 2008 compared with 2007 primarily reflects the change in the country mix of the group’s income, resulting in a higher overall tax burden. The reduction in the effective rate in 2007 compared with 2006 primarily reflects the reduction in the UK tax rate and the fact that a higher proportion of income arose in countries bearing a lower tax rate and other factors. Business results Profit before interest and taxation from continuing operations, which is before finance costs, other finance expense, taxation and minority interests, was $35,239 million in 2008, $32,352 million in 2007 and $35,158 million in 2006. 51 BP Annual Report and Accounts 2008 Performance review Exploration and Production For the year ended 31 December Total revenuesa Profit before interest and tax from continuing operationsb Results include: Exploration expense Of which: Exploration expenditure written off Key statistics Average BP crude oil realizationsc UK US Rest of World BP average Average BP NGL realizationsc UK US Rest of World BP average Average BP liquids realizationsc d UK US Rest of World BP average Average BP natural gas realizationsc UK US Rest of World BP average Average West Texas Intermediate oil price Alaska North Slope US West Coast Average Brent oil price Average Henry Hub gas pricee Average UK National Balancing Point gas price Total liquids production for subsidiariesd f Total liquids production for equity-accounted entitiesd f Natural gas production for subsidiariesf Natural gas production for equity-accounted entitiesf Total production for subsidiariesf g Total production for equity-accounted entitiesf g aIncludes sales between businesses. bIncludes profit after interest and tax of equity-accounted entities. cRealizations are based on sales of consolidated subsidiaries only, which excludes equity-accounted entities. dCrude oil and natural gas liquids. eHenry Hub First of Month Index. fNet of royalties. gExpressed in thousands of barrels of oil equivalent per day (mboe/d). Natural gas is converted to oil equivalent at 5.8 billion cubic feet = 1 million barrels. 52 2008 89,902 37,915 882 385 92.09 97.37 94.74 95.43 57.24 52.14 50.84 52.30 89.82 89.22 91.05 90.20 8.41 6.77 5.19 6.00 100.06 98.86 97.26 2007 69,376 27,729 $ million 2006 71,868 30,953 756 347 1,045 624 $ per barrel 70.36 68.51 70.86 69.98 52.71 44.59 48.14 46.20 69.17 64.18 69.56 67.45 62.45 62.03 61.11 61.91 47.21 36.13 36.03 37.17 61.67 57.25 59.54 59.23 $ per thousand cubic feet 6.40 5.43 3.71 4.53 72.20 71.68 72.39 6.33 5.74 3.70 4.72 $ per barrel 66.02 63.57 65.14 $ per million British thermal units 9.04 6.86 7.24 pence per therm 58.12 29.95 42.19 1,263 1,138 7,277 1,057 thousand barrels per day 1,304 1,110 1,351 1,124 million cubic feet per day 7,222 921 7,412 1,005 thousand barrels of oil equivalent per day 2,517 1,321 2,549 1,269 2,629 1,297 BP Annual Report and Accounts 2008 Performance review Total revenues are analysed in more detail below. Sales and other operating revenues Earnings from equity-accounted entities (after interest and tax), interest and other revenues 2008 86,170 3,732 89,902 2007 65,740 3,636 69,376 $ million 2006 67,950 3,918 71,868 Total revenues for 2008 were $90 billion, compared with $69 billion in 2007 and $72 billion in 2006. The increase in 2008 primarily reflected higher oil and gas realizations. Gas marketing sales also increased primarily as a result of higher prices. The decrease in 2007 compared with 2006 primarily reflected lower volumes of subsidiaries and lower gas marketing sales, partly offset by higher realizations. Profit before interest and tax for the year ended 31 December 2008 was $37,915 million. This included inventory holding losses of $393 million and a net charge for non-operating items of $990 million (see page 56), with the most significant items being net impairment charges (primarily driven by the current low price environment) and net fair value losses on embedded derivatives, partly offset by the reversal of certain provisions. The impairment charge includes a $517 million write-down of our investment in Rosneft based on its quoted market price at the end of the year. In addition, fair value accounting effects had an unfavourable impact of $282 million relative to management’s measure of performance (see page 56). Profit before interest and tax for the year ended 31 December 2007 was $27,729 million. This included inventory holding gains of $127 million and a net credit from non-operating items of $491 million (see page 56), with the most significant items being net gains from the sale of assets (primarily from the disposal of our production and gas infrastructure in the Netherlands, our interests in non-core Permian assets in the US and our interests in the Entrada field in the Gulf of Mexico), partly offset by a restructuring charge and a charge in respect of the reassessment of certain provisions. In addition, fair value accounting effects had a favourable impact of $48 million relative to management’s measure of performance (see page 56). Profit before interest and tax for the year ended 31 December 2006 was $30,953 million. This included inventory holding losses of $73 million and a net credit from non-operating items of $2,563 million (see page 56), with the most significant items being net gains from the sale of assets (primarily from the sales of interests in the Shenzi discovery in the Gulf of Mexico in the US and interests in the North Sea partly offset by a loss on the sale of properties in the Gulf of Mexico Shelf) and net fair value gains on embedded derivatives, partly offset by a charge for legal provisions. In addition, fair value accounting effects had an unfavourable impact of $32 million relative to management’s measure of performance (see page 56). The primary additional factor contributing to the 37% increase in profit before interest and tax for the year ended 31 December 2008 compared with the year ended 31 December 2007 was higher realizations. In addition, the result reflected a higher contribution from the gas marketing and trading business but was impacted by higher production taxes and higher depreciation. The impact of inflation within other costs was mitigated by rigorous cost control and a focus on simplification and efficiency. The primary additional factors reflected in profit before interest and tax for the year ended 31 December 2007 compared with the year ended 31 December 2006 were higher overall realizations (liquids realizations were higher and gas realizations were lower) and a favourable effect from lagged tax reference prices in TNK-BP; however, these factors were more than offset by the impact of lower reported volumes, a lower contribution from the gas marketing and trading business, higher production taxes in Alaska and higher costs, reflecting the impacts of sector-specific inflation, increased integrity spend and higher depreciation charges. Additionally, the result was lower due to the absence of disposal gains in 2006 in equity-accounted entities. Reported production for 2008 was 2,517mboe/d for subsidiaries and 1,321mboe/d for equity-accounted entities, compared with 2,549mboe/d and 1,269mboe/d respectively in 2007. In aggregate, after adjusting for the effect of lower entitlement in our PSAs, production was 5% higher than 2007. This reflected strong performance from our existing assets, the continued ramp-up of production following the start up of major projects in late-2007 and the start-up of a further nine major projects in 2008. Reported production for 2007 was 2,549mboe/d for subsidiaries and 1,269mboe/d for equity-accounted entities, compared with 2,629mboe/d and 1,297mboe/d respectively in 2006. In aggregate, the decrease primarily reflected the effect of disposals and net entitlement reductions in our PSAs. i w e v e r e c n a m r o f r e P 53 BP Annual Report and Accounts 2008 Performance review Refining and Marketing Total revenuesa Profit before interest and tax from continuing operationsb Global Indicator Refining Margin (GIM)c Northwest Europe US Gulf Coast Midwest US West Coast Singapore BP average Refining availabilityd Refinery throughputs 2008 320,458 (1,884) 2007 250,897 6,076 6.72 6.78 5.17 7.42 6.30 6.50 4.99 13.48 12.81 15.05 5.29 9.94 88.8 82.9 $ million 2006 232,833 4,919 $ per barrel 3.92 12.00 9.14 14.84 4.22 8.39 % 82.5 2,155 thousand barrels per day 2,198 2,127 aIncludes sales between businesses. bIncludes profit after interest and tax of equity-accounted entities. cThe GIM is the average of regional industry indicator margins that we weight for BP’s crude refining capacity in each region. Each regional indicator margin is based on a single representative crude with product yields characteristic of the typical level of upgrading complexity. The refining margins are industry-specific rather than BP-specific measures, which we believe are useful to investors in analyzing trends in the industry and their impact on our results. The margins are calculated by BP based on published crude oil and product prices and take account of fuel utilization and catalyst costs. No account is taken of BP’s other cash and non-cash costs of refining, such as wages and salaries and plant depreciation. The indicator margin may not be representative of the margins achieved by BP in any period because of BP’s particular refining configurations and crude and product slate. dRefining availability represents Solomon Associates’ operational availability, which is defined as the percentage of the year that a unit is available for processing after subtracting the annualized time lost due to turnaround activity and all planned mechanical, process and regulatory maintenance downtime. Total revenues are explained in more detail below. Sale of crude oil through spot and term contracts Marketing, spot and term sales of refined products Other sales and operating revenues Earnings from equity-accounted entities (after interest and tax), interest, and other revenues 2008 54,901 248,561 16,577 419 320,458 1,689 5,698 2007 43,004 194,979 12,238 676 250,897 $ million 2006 38,577 177,995 15,814 447 232,833 thousand barrels per day 2,110 1,885 5,801 5,624 Sale of crude oil through spot and term contracts Marketing, spot and term sales of refined products Total revenues for 2008 were $320 billion, compared with $251 billion in 2007 and $233 billion in 2006. The increase in 2008 compared with 2007 primarily reflected an increase in marketing, spot and term sales of refined products, mainly driven by higher prices. Additionally, sales of crude oil, spot and term contracts increased, as a result of higher prices, partly offset by lower volumes. The increase in 2007 compared with 2006 was principally due to an increase in marketing, spot and term sales of refined products. This was due to higher prices and a positive foreign exchange impact due to a weaker dollar, partially offset by lower volumes. Additionally, sales of crude oil, spot and term contracts increased, primarily reflecting higher prices, and other sales decreased due to lower volumes partially offset by a positive foreign exchange impact. The loss before interest and tax for the year ended 31 December 2008 was $1,884 million. This included inventory holding losses of $6,060 million and a net credit for non-operating items of $347 million (see page 56). The most significant non-operating items were net gains on disposal (primarily in respect of the gain recognized on the contribution of the Toledo refinery into a joint venture with Husky Energy Inc.) partly offset by restructuring charges. In addition, fair value accounting effects had a favourable impact of $511 million relative to management’s measure of performance (see page 56). 54 Profit before interest and tax for the year ended 31 December 2007 was $6,076 million. This included inventory holding gains of $3,455 million and a net charge for non-operating items of $952 million (see page 56). The most significant non-operating items were net disposal gains (primarily related to the sale of BP’s Coryton refinery in the UK, its interest in the West Texas pipeline system in the US and its interest in the Samsung Petrochemical Company in South Korea), net impairment charges (primarily related to the sale of the majority of our US Convenience Retail business, a write-down of certain assets at our Hull site and write-down of our retail assets in Mexico) and a charge related to the March 2005 Texas City refinery incident. In addition, fair value accounting effects had an unfavourable impact of $357 million relative to management’s measure of performance (see page 56). Profit before interest and tax for the year ended 31 December 2006 was $4,919 million. This included inventory holding losses of $242 million and a net charge for non-operating items of $387 million (see page 56). The most significant non-operating items were net disposal gains (related primarily to the sale of BP’s Czech Republic retail business, the disposal of BP’s shareholding in Zhenhai Refining and Chemicals Company, the sale of BP’s shareholding in Eiffage, the French-based construction company, and pipelines assets) and a charge related to the March 2005 Texas City refinery incident. In addition, fair BP Annual Report and Accounts 2008 Performance review value accounting effects had a favourable impact of $211 million relative to management’s measure of performance (see page 56). During 2008, significant performance improvements in both our Fuels Value Chains and International Businesses mitigated cost inflation and, to a large extent, the much weaker environment. The main sources of improvement were from restoring the revenues of our refining operations; improved supply and trading performance; improved marketing performance, particularly from the International Businesses, and reduced costs. The cost reductions have been driven by the simplification of our business structure through the establishment of Fuels Value Chains and a reduction in our geographical footprint, as well as by strong cost management. The most significant environmental factor was the weaker refining environment, particularly due to lower refining margins in the US and the adverse impact in the second half of 2008 of prior-month pricing of domestic pipeline barrels for our US refining system, but there were also adverse foreign exchange effects. During 2007, the segment continued to focus on the restoration of operations at the Texas City refinery and on investments in integrity management throughout our refining portfolio. We have also focused on the repair and recommissioning of the Whiting refinery following the operational issues in March 2007. In many parts of the refining portfolio and the other market-facing businesses, we delivered high reliability and improved results compared with 2006. However, for the full year, compared with 2006, the impact of the outages and recommissioning costs at the Texas City and Whiting refineries, as well as investments in integrity management and scheduled turnarounds throughout our refining portfolio, cost inflation and lower results from supply optimization decreased our result. These factors more than offset increased margins in both refining and marketing. The average refining Global Indicator Margin (GIM) in 2008 was lower than in 2007. Refining throughputs in 2008 were 2,155mb/d, 28mb/d higher than in 2007. Refining availability was 88.8%, six percentage points higher than in 2007, the increase being driven primarily by improvement at the Texas City and Whiting refineries. Marketing volumes at 3,711mb/d were around 2.5% lower than in 2007. Other businesses and corporate Total revenuesa Profit (loss) before interest and tax from continuing operationsb 2008 5,040 2007 3,972 $ million 2006 3,703 (1,258) (1,233) (779) aIncludes sales between businesses. bIncludes profit after interest and tax of equity-accounted entities. Other businesses and corporate comprises the Alternative Energy business, Shipping, the group’s aluminium asset, Treasury (which includes all the group’s cash, cash equivalents), and corporate activities worldwide. The loss before interest and tax for the year ended 31 December 2008 was $1,258 million and included inventory holding losses of $35 million and a net charge for non-operating items of $633 million (see page 56). The loss before interest and tax for the year ended 31 December 2007 was $1,233 million and included inventory holding losses of $24 million and a net charge for non-operating items of $262 million (see page 56). The loss before interest and tax for the year ended 31 December 2006 was $779 million and included inventory holding gains of $62 million and a net charge for non-operating items of $72 million (see page 56). Non-operating items Non-operating items are charges and credits that BP discloses separately because it considers such disclosures to be meaningful and relevant to investors. The main categories of non-operating items in the periods presented are: impairments; gains or losses on sale of fixed assets and the sale of businesses; environmental remediation; restructuring, integration and rationalization costs; and changes in the fair value of embedded derivatives. These disclosures are provided in order to enable investors better to understand and evaluate the group’s financial performance. An analysis of non-operating items is shown on page 56. Non-GAAP information on fair value accounting effects BP uses derivative instruments to manage the economic exposure relating to inventories above normal operating requirements of crude oil, natural gas and petroleum products as well as certain contracts to supply physical volumes at future dates. Under IFRS, these inventories and contracts are recorded at historic cost and on an accruals basis respectively. The related derivative instruments, however, are required to be recorded at fair value with gains and losses recognized in income because hedge accounting is either not permitted or not followed, principally due to the impracticality of effectiveness testing requirements. Therefore, measurement differences in relation to recognition of gains and losses occur. Gains and losses on these inventories and contracts are not recognized until the commodity is sold in a subsequent accounting period. Gains and losses on the related derivative commodity contracts are recognized in the income statement from the time the derivative commodity contract is entered into on a fair value basis using forward prices consistent with the contract maturity. IFRS requires that inventory held for trading be recorded at its fair value using period end spot prices whereas any related derivative commodity instruments are required to be recorded at values based on forward prices consistent with the contract maturity. Depending on market conditions, these forward prices can be either higher or lower than spot prices resulting in measurement differences. BP enters into contracts for pipelines and storage capacity that, under IFRS, are recorded on an accruals basis. These contracts are risk- managed using a variety of derivative instruments that are fair valued under IFRS. This results in measurement differences in relation to recognition of gains and losses. The way that BP manages the economic exposures described above, and measures performance internally, differs from the way these activities are measured under IFRS. BP calculates this difference by comparing the IFRS result with management’s internal measure of performance, under which the inventory and the supply and capacity contracts in question are valued based on fair value using relevant forward prices prevailing at the end of the period. We believe that disclosing management’s estimate of this difference provides useful information for investors because it enables investors to see the economic effect of these activities as a whole. The impacts of fair value accounting effects, relative to management’s internal measure of performance, are shown in the table below and on the following page. Reconciliation of non-GAAP information Exploration and Production 2008 2007 Profit before interest and tax adjusted for fair value accounting effects Impact of fair value accounting effects Profit before interest and tax 38,197 (282) 37,915 27,681 48 27,729 $ million 2006 39,985 (32) 39,953 Refining and Marketing Profit before interest and tax adjusted for fair value accounting effects Impact of fair value accounting effects Profit before interest and tax (2,395) 511 (1,884) 6,433 (357) 6,076 4,708 211 4,919 55 i w e v e r e c n a m r o f r e P BP Annual Report and Accounts 2008 Performance review Non-operating items Exploration and Production Impairment and gain (loss) on sale of businesses and fixed assets Environmental and other provisions Restructuring, integration and rationalization costs Fair value gain (loss) on embedded derivatives Other Refining and Marketing Impairment and gain (loss) on sale of businesses and fixed assets Environmental and other provisions Restructuring, integration and rationalization costs Fair value gain (loss) on embedded derivatives Other Other businesses and corporate Impairment and gain (loss) on sale of businesses and fixed assets Environmental and other provisions Restructuring, integration and rationalization costs Fair value gain (loss) on embedded derivatives Other Total before taxation for continuing operations Taxationa Total after taxation for continuing operations Fair value accounting effects Exploration and Production Unrecognized gains (losses) brought forward from previous period Unrecognized (gains) losses carried forward Favourable (unfavourable) impact relative to management’s measure of performance Refining and Marketing Unrecognized gains (losses) brought forward from previous period Unrecognized (gains) losses carried forward Favourable (unfavourable) impact relative to management’s measure of performance Taxationa By region Exploration and Production UK Rest of Europe US Rest of World Refining and Marketing UK Rest of Europe US Rest of World aThe amounts shown for taxation are based upon the effective tax rate on group profit. 56 2008 2007 (1,015) (12) (57) (163) 257 (990) 801 (64) (447) 57 – 347 (166) (117) (254) (5) (91) (633) (1,276) 480 (796) 857 (12) (186) – (168) 491 (35) (138) (118) – (661) (952) (14) (35) (34) (7) (172) (262) (723) 350 (373) 2008 2007 107 (389) (282) 429 82 511 229 (83) 146 45 – (231) (96) (282) 186 54 231 40 511 155 (107) 48 72 (429) (357) (309) 111 (198) 1 – (77) 124 48 (52) (110) (165) (30) (357) $ million 2006 2,410 (17) – 603 (433) 2,563 726 (33) – – (1,080) (387) 29 94 – 5 (200) (72) 2,104 (867) 1,237 $ million 2006 123 (155) (32) 283 (72) 211 179 (107) 72 63 – (59) (36) (32) 109 101 13 (12) 211 BP Annual Report and Accounts 2008 Performance review Environmental expenditure Operating expenditure Clean-ups Capital expenditure Additions to environmental remediation provision Additions to decommissioning provision Operating and capital expenditure on the prevention, control, abatement or elimination of air, water and solid waste pollution is often not incurred as a separately identifiable transaction. Instead, it forms part of a larger transaction that includes, for example, normal maintenance expenditure. The figures for environmental operating and capital expenditure in the table are therefore estimates, based on the definitions and guidelines of the American Petroleum Institute. Environmental operating expenditure of $755 million in 2008 was higher than in 2007 and reflects continuing integrity management activity. There were no individually significant factors driving the increase. The increase in environmental operating expenditure in 2007 compared with 2006 is primarily due to increased integrity management activity and activity associated with the implementation of the Baker Panel recommendations. Similar levels of operating and capital expenditures are expected in the foreseeable future. In addition to operating and capital expenditures, we also create provisions for future environmental remediation. Expenditure against such provisions is normally in subsequent periods and is not included in environmental operating expenditure reported for such periods. The charge for environmental remediation provisions in 2008 includes $234 million resulting from a reassessment of existing site obligations and $36 million in respect of provisions for new sites. Provisions for environmental remediation are made when a clean- up is probable and the amount of the obligation can be reliably estimated. Generally, this coincides with commitment to a formal plan of action or, if earlier, on divestment or on closure of inactive sites. The extent and cost of future environment restoration, remediation and abatement programmes are often inherently difficult to estimate. They often depend on the extent of contamination, and the associated impact and timing of the corrective actions required, technological feasibility and BP’s share of liability. Though the costs of future programmes could be significant and may be material to the results of operations in the period in which they are recognized, it is not expected that such costs will be material to the group’s overall results of operations or financial position. 2008 2007 755 64 1,104 270 326 662 62 1,033 373 1,163 $ million 2006 596 59 806 423 2,142 In addition, we make provisions on installation of our oil- and gas- producing assets and related pipelines to meet the cost of eventual decommissioning. On installation of an oil or natural gas production facility a provision is established that represents the discounted value of the expected future cost of decommissioning the asset. Additionally, we undertake periodic reviews of existing provisions. These reviews take account of revised cost assumptions, changes in decommissioning requirements and any technological developments. The level of increase in the decommissioning provision varies with the number of new fields coming onstream in a particular year and the outcome of the periodic reviews. Provisions for environmental remediation and decommissioning are usually set up on a discounted basis, as required by IAS 37 ‘Provisions, Contingent Liabilities and Contingent Assets’. Further details of decommissioning and environmental provisions appear in Financial statements – Note 37 on page 158. See also Environment on page 43. Suppliers and contractors Our processes are designed to enable us to choose suppliers carefully on merit, avoiding conflicts of interest and inappropriate gifts and entertainment. We expect suppliers to comply with legal requirements and we seek to do business with suppliers who act in line with BP’s commitments to compliance and ethics, as outlined in the code of conduct. We engage with suppliers in a variety of ways, including performance review meetings to identify mutually advantageous ways to improve performance. Creditor payment policy and practice Statutory regulations issued under the UK Companies Act 1985 require companies to make a statement of their policy and practice in respect of the payment of trade creditors. In view of the international nature of the group’s operations there is no specific group-wide policy in respect of payments to suppliers. Relationships with suppliers are, however, governed by the group’s policy commitment to long-term relationships founded on trust and mutual advantage. Within this overall policy, individual operating companies are responsible for agreeing terms and conditions for their business transactions and ensuring that suppliers are aware of the terms of payment. i w e v e r e c n a m r o f r e P 57 BP Annual Report and Accounts 2008 Performance review Liquidity and capital resources Cash flow The following table summarizes the group’s cash flows. Net cash provided by operating activities Net cash used in investing activities Net cash used in financing activities Currency translation differences relating to cash and cash equivalents Increase (decrease) in cash and cash equivalents Cash and cash equivalents at beginning of year Cash and cash equivalents at end of year Net cash provided by operating activities for the year ended 31 December 2008 was $38,095 million compared with $24,709 million for the equivalent period of 2007 reflecting a decrease in working capital requirements of $11,250 million, an increase in profit before taxation of $2,672 million and an increase in dividends from jointly controlled entities and associates of $1,255 million; these were partly offset by an increase in income taxes paid of $3,752 million. Net cash provided by operating activities for the year ended 31 December 2007 was $24,709 million, compared with $28,172 million for the equivalent period for 2006 reflecting an increase in working capital requirements of $6,282 million, a decrease in profit before taxation from continuing operations of $3,031 million, a decrease in dividends from jointly controlled entities and associates of $2,022 million; these were partially offset by a decrease in income taxes paid of $4,661 million, a lower net credit for impairment and gains and losses on sale of businesses and fixed assets of $2,357 million and higher depreciation, depletion and amortization of $1,451 million. Net cash used in investing activities was $22,767 million in 2008, compared with $14,837 million and $9,518 million in 2007 and 2006. The increase in 2008 reflected a reduction in disposal proceeds of $3,338 million and an increase in capital expenditure of $5,303 million. The increase in 2007 reflected a reduction in disposal proceeds of $1,987 million and an increase in capital expenditure of $2,713 million. Net cash used in financing activities was $10,509 million in 2008 compared with $9,035 million in 2007 and $19,071 million in 2006. The increase in 2008 reflects a decrease in short-term debt of $2,809 million and an increase in dividends paid of $2,434 million; these were partly offset by a $4,546 million decrease in the net repurchase of shares. The reduction in 2007 compared with 2006 reflects a reduction in net repurchases of shares of $8,038 million and an increase in proceeds from long-term financing of $4,278 million; these were partially offset by a net decrease in short-term debt of $2,379 million. The group has had significant levels of capital investment for many years. Cash flow in respect of capital investment, excluding acquisitions, was $23.7 billion in 2008, $18.4 billion in 2007 and $15.7 billion in 2006. Sources of funding are completely fungible, but the majority of the group’s funding requirements for new investment come from cash generated by existing operations. The group’s level of net debt, that is debt less cash and cash equivalents, was $25.0 billion at the end of 2008, $26.8 billion at the end of 2007 and was $21.1 billion at the end of 2006. During the period 2006 to 2008, our total sources of cash amounted to $104 billion, whilst our total uses of cash amounted to $112 billion. The net cash usage of $8 billion was financed by an increase in finance debt of $13 billion over the three-year period, offset by an increase in our balance of cash and cash equivalents of $5 billion. During this period, the price of Brent has averaged $78.26 per barrel. The following table summarizes the three-year sources and uses of cash. 58 2008 38,095 (22,767) (10,509) (184) 4,635 3,562 8,197 2007 24,709 (14,837) (9,035) 135 972 2,590 3,562 Sources of cash Net cash provided by operating activities Divestments Uses of cash Capital expenditure Acquisitions Net repurchase of shares Dividends to BP shareholders Dividends to minority interests Net use of cash Financed by Increase in finance debt Increase in cash and cash equivalents $ million 2006 28,172 (9,518) (19,071) 47 (370) 2,960 2,590 $ billion 91 13 104 58 2 25 26 1 112 (8) (13) 5 (8) Acquisitions made for cash were more than offset by divestments. Net investment during the same period has averaged $16 billion per year. Dividends to BP shareholders, which grew on average by 16.8% per year in dollar terms, used $26 billion. Net repurchase of shares was $25 billion, which includes $26 billion in respect of our share buyback programme less net proceeds from shares issued in connection with employee share schemes. Finally, cash was used to strengthen the financial condition of certain of our pension plans. In the past three years, $2 billion has been contributed to funded pension plans. This is reflected in net cash provided by operating activities in the table above. Trend information We expect the short-term outlook for oil prices to be impacted by OPEC cuts on the one hand, and the outlook for the world economy and oil demand on the other. We expect continued volatility and our current expectation is that oil prices, relative to 2008, will continue to be low in 2009, and that this could extend into 2010. In Exploration and Production, total production is expected to be somewhat higher in 2009. The actual growth rate will depend on a number of factors, including our pace of capital spending, the efficiency of that spend (in turn depending on industry cost deflation), the oil price and its impact on PSAs as well as OPEC quota restrictions. In Refining and Marketing, 2009 is expected to be a challenging environment with reduced demand for our products, leading to lower volumes and pressure on margins. The impact is expected to be greatest in the petrochemicals sector. In 2009, with our US refining system fully operational, we expect our overall refining availability to be higher than in 2008. BP Annual Report and Accounts 2008 Performance review During 2008, we established momentum in cost control, mitigating the cost inflation that was primarily driven by rising oil prices. In 2009, our highest priority will continue to be achieving safe, compliant and reliable operations and we intend to continue our focus on cost efficiency. We expect cost deflation to be increasingly visible as we move through 2009. We expect capital expenditure, excluding acquisitions and asset Financing the group’s activities The group’s principal commodity, oil, is priced internationally in US dollars. Group policy has been to minimize economic exposure to currency movements by financing operations with US dollar debt wherever possible, otherwise by using currency swaps when funds have been raised in currencies other than US dollars. exchanges, to be around $20-21 billion in 2009. This reflects our intention in Exploration and Production to maintain investment whilst vigorously working to drive down costs and to reduce spending in our Refining and Marketing and Alternative Energy businesses in keeping with the current weak economic environment. We expect disposal proceeds to be between $2-3 billion in 2009. On the basis of our current plans, we expect cash inflows and outflows in 2009 would balance at oil prices of around $60/bbl, taking account of expected disposal proceeds. We would expect that break even point to lower as we realize the benefits of our operational momentum and our action on costs. Dividends and other distributions to shareholders The total dividend paid to BP shareholders in 2008 was $10,342 million, compared with $8,106 million for 2007. The dividend paid per share was 55.05 cents, an increase of 30% compared with 2007. In sterling terms, the dividend increased 40% due to the strengthening of the dollar relative to sterling. We determine the dividend in US dollars, the economic currency of BP. During 2008, the company repurchased 269.8 million of its own shares for cancellation at a cost of $2.9 billion. The repurchased shares had a nominal value of $67.5 million and represented 1.4% of ordinary shares in issue, net of treasury shares, at the end of 2007. Since the inception of the share repurchase programme in 2000, we have repurchased 4,929 million shares at a cost of $51.1 billion. Our aim is to strike the right balance for shareholders, between current returns via the dividend, sustained investment for long-term growth, and maintaining a prudent gearing level. At the beginning of 2008, we rebalanced our distributions away from share buybacks in favour of dividends. BP intends to continue the operation of the Dividend Reinvestment Plan (DRIP) for shareholders who wish to receive their dividend in the form of shares rather than cash. The BP Direct Access Plan for US and Canadian shareholders also includes a dividend reinvestment feature. The discussion above and following contains forward-looking statements with regard to oil prices, production, demand for refining products, refining volumes and margins and impact on the petrochemicals sector, refining availability, continuing priority of safe, compliant and reliable operations, and focus on cost efficiency, cost deflation, capital expenditure, expected disposal proceeds, cash flows, shareholder distributions, gearing, working capital, guarantees, expected payments under contractual and commercial commitments and purchase obligations. These forward-looking statements are based on assumptions that management believes to be reasonable in the light of the group’s operational and financial experience. However, no assurance can be given that the forward-looking statements will be realized. You are urged to read the cautionary statement under Forward-looking statements on page 14 and Risk factors on pages 12-14, which describe the risks and uncertainties that may cause actual results and developments to differ materially from those expressed or implied by these forward-looking statements. The company provides no commitment to update the forward-looking statements or to publish financial projections for forward-looking statements in the future. The group’s finance debt is almost entirely in US dollars and at 31 December 2008 amounted to $33,204 million (2007 $31,045 million) of which $15,740 million (2007 $15,394 million) was short term. Net debt was $25,041 million at the end of 2008, a decrease of $1,776 million compared with 2007. We believe that a net debt ratio, that is net debt to net debt plus equity, of 20-30% provides an efficient capital structure and the appropriate level of financial flexibility. The net debt ratio was 21% at the end of 2008 and 22% at the end of 2007, close to the lower end of our target band. Net debt, which BP uses as a measure of financial gearing, includes the fair value of associated derivative financial instruments that are used to hedge foreign exchange and interest rate risks relating to finance debt, for which hedge accounting is claimed. The maturity profile and fixed/floating rate characteristics of the group’s debt are described in Financial statements – Note 28 on page 142 and Note 35 on page 155. We have in place a European Debt Issuance Programme (DIP) under which the group may raise $20 billion of debt for maturities of one month or longer. At 31 December 2008, the amount drawn down against the DIP was $10,334 million (2007 $10,438 million). In addition, the group has in place a US Shelf Registration under which it may raise $10 billion of debt with maturities of one month or longer. At 31 December 2008, the amount raised under the US Shelf Registration was $6,500 million (2007 $2,500 million). Commercial paper markets in the US and Europe are a primary source of liquidity for the group. At 31 December 2008, the outstanding commercial paper amounted to $4,268 million (2007 $5,881 million). The group also has access to significant sources of liquidity in the form of committed facilities and other funding through the capital markets. At 31 December 2008, the group had available undrawn committed borrowing facilities of $4,950 million (2007 $4,950 million). Despite current uncertainty in the financial markets, including a lack of liquidity for some borrowers, we have been able to issue $5 billion of long-term debt in the fourth quarter of 2008. In addition, we have been able to issue short-term commercial paper at competitive rates. In the context of unforeseen market volatility, we have however, increased the cash and cash equivalents held by the group to $8.2 billion at the end of 2008, compared with $3.6 billion at the end of 2007. BP believes that, taking into account the substantial amounts of undrawn borrowing facilities available, the group has sufficient working capital for foreseeable requirements. Off-balance sheet arrangements At 31 December 2008, the group’s share of third-party finance debt of equity-accounted entities was $6,675 million (2007 $6,764 million). These amounts are not reflected in the group’s debt on the balance sheet. The group has issued third-party guarantees under which amounts outstanding at 31 December 2008 are summarized on the following page. Some guarantees outstanding are in respect of borrowings of jointly controlled entities and associates noted above. The analysis by time period indicates the ultimate expiry of the guarantees. i w e v e r e c n a m r o f r e P 59 BP Annual Report and Accounts 2008 Performance review Guarantees issued in respect ofa Liabilities and borrowings of jointly controlled entities and associates Liabilities and borrowings of other third parties Total 2009 2010 2011 2012 2013 2014 and thereafter $ million Guarantees expiring by period 223 613 70 94 32 19 25 30 6 35 6 34 84 401 aOf the amounts shown in the table, $215 million of the jointly controlled entities and associates guarantees relate to guarantees of borrowings and for other third party guarantees, $582 million relates to guarantees of borrowings. Contractual commitments The following table summarizes the group’s principal contractual obligations at 31 December 2008. Further information on borrowings and finance leases is given in Financial statements – Note 35 on page 155 and more information on operating leases is given in Financial statements – Note 16 on page 132. Expected payments by period under contractual obligations and commercial commitments Borrowingsa Finance lease future minimum lease payments Operating leasesb Decommissioning liabilities Environmental liabilities Pensions and other post-retirement benefitsc Purchase obligationsd Total $ million Payments due by period Total 35,192 916 18,795 12,347 1,797 26,288 115,642 210,977 2009 16,554 116 4,135 348 422 1,105 64,479 87,159 2010 5,817 117 3,215 361 380 1,352 13,317 24,559 2011 3,303 116 2,340 211 204 1,346 6,559 14,079 2012 2,577 70 1,897 157 177 1,346 5,100 11,324 2013 5,014 58 1,688 197 129 1,342 4,531 12,959 2014 and thereafter 1,927 439 5,520 11,073 485 19,797 21,656 60,897 aExpected payments include interest payments on borrowings totalling $2,607 million ($907 million in 2009, $608 million in 2010, $421 million in 2011, $318 million in 2012, $236 million in 2013 and $117 million thereafter). bThe future minimum lease payments are before deducting related rental income from operating sub-leases. Where an operating lease is entered into solely by the group as the operator of a jointly controlled asset, the total cost is included irrespective of any amounts that will be reimbursed by joint venture partners. Where operating lease costs are incurred in relation to the hire of equipment used in connection with a capital project, some or all of the cost may be capitalized as part of the capital cost of the project. cRepresents the expected future contributions to funded pension plans and payments by the group for unfunded pension plans and the expected future payments for other post- retirement benefits. dRepresents any agreement to purchase goods or services that is enforceable and legally binding and that specifies all significant terms. The amounts shown include arrangements to secure long-term access to supplies of crude oil, natural gas, feedstocks and pipeline systems. In addition, the amounts shown for 2009 include purchase commitments existing at 31 December 2008 entered into principally to meet the group’s short-term manufacturing and marketing requirements. The price risk associated with these crude oil, natural gas and power contracts is discussed in Financial statements – Note 28 on page 142. The following table summarizes the nature of the group’s unconditional purchase obligations. Purchase obligations Crude oil and oil products Natural gas Chemicals and other refinery feedstocks Power Utilities Transportation Use of facilities and services Total Total 42,261 43,242 12,223 6,156 690 3,820 7,250 115,642 2009 31,308 22,949 3,010 4,910 111 759 1,432 64,479 2010 2,972 5,982 1,724 1,168 101 464 906 13,317 2011 970 2,844 1,295 60 86 416 888 6,559 2012 1,203 1,837 837 16 83 341 783 5,100 $ million Payments due by period 2013 953 1,619 847 2 57 314 739 4,531 2014 and thereafter 4,855 8,011 4,510 – 252 1,526 2,502 21,656 The group expects its total capital expenditure, excluding acquisitions and asset exchanges to be around $20-21 billion in 2009. The following table summarizes the group’s capital expenditure commitments for property, plant and equipment at 31 December 2008 and the proportion of that expenditure for which contracts have been placed. Capital expenditure is considered to be committed when the project has received the appropriate level of internal management approval. For jointly controlled assets, the net BP share is included in the amounts shown. Where operating lease costs are incurred in connection with a capital project, some or all of the cost may be capitalized as part of the capital cost of the project. Such costs are included in the amounts shown. Capital expenditure commitments Committed on major projects Amounts for which contracts have been placed Total 35,845 14,062 2009 14,936 8,175 2010 8,154 2,908 2011 5,175 1,197 2012 3,136 621 2013 1,580 402 $ million 2014 and thereafter 2,864 759 In addition, at 31 December 2008, the group had committed to capital expenditure relating to investments in equity-accounted entities amounting to $1.2 billion. Contracts were in place for $0.8 billion of this total. 60 BP Annual Report and Accounts 2008 Performance review Critical accounting policies The significant accounting policies of the group are summarized in Financial statements – Note 1 on page 108. Inherent in the application of many of the accounting policies used in preparing the financial statements is the need for BP management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual outcomes could differ from the estimates and assumptions used. The following summary provides more information about the critical accounting policies that could have a significant impact on the results of the group and should be read in conjunction with the Notes on financial statements. The accounting policies and areas that require the most significant judgements and estimates used in the preparation of the consolidated financial statements are in relation to oil and natural gas accounting, including the estimation of reserves, the recoverability of asset carrying values, taxation, derivative financial instruments, provisions and contingencies, and pensions and other post-retirement benefits. Oil and natural gas accounting The group follows the successful efforts method of accounting for its oil and natural gas exploration and production activities. The acquisition of geological and geophysical seismic information, prior to the discovery of proved reserves, is expensed as incurred. Exploration licence and leasehold property acquisition costs are capitalized within intangible assets and are reviewed at each reporting date to confirm that there is no indication that the carrying amount exceeds the recoverable amount. This review includes confirming that exploration drilling is still under way or firmly planned or that it has been determined, or work is under way to determine, that the discovery is economically viable based on a range of technical and commercial considerations and sufficient progress is being made on establishing development plans and timing. If no future activity is planned, the remaining balance of the licence and property acquisition costs is written off. Lower value licences are pooled and amortized on a straight-line basis over the estimated period of exploration. For exploration wells and exploratory-type stratigraphic test wells, costs directly associated with the drilling of wells are initially capitalized within intangible assets, pending determination of whether potentially economic oil and gas reserves have been discovered by the drilling effort. These costs include employee remuneration, materials and fuel used, rig costs, delay rentals and payments made to contractors. The determination is usually made within one year after well completion, but can take longer, depending on the complexity of the geological structure. If the well did not encounter potentially economic oil and gas quantities, the well costs are expensed as a dry hole and are reported in exploration expense. Exploration wells that discover potentially economic quantities of oil and gas and are in areas where major capital expenditure (e.g. offshore platform or a pipeline) would be required before production could begin, and where the economic viability of that major capital expenditure depends on the successful completion of further exploration work in the area, remain capitalized on the balance sheet as long as additional exploration appraisal work is under way or firmly planned. It is not unusual to have exploration wells and exploratory-type stratigraphic test wells remaining suspended on the balance sheet for several years while additional appraisal drilling and seismic work on the potential oil and gas field is performed or while the optimum development plans and timing are established. All such carried costs are subject to regular technical, commercial and management review on at least an annual basis to confirm the continued intent to develop, or otherwise extract value from, the discovery. Where this is no longer the case, the costs are immediately expensed. Once a project is sanctioned for development, the carrying values of exploration licence and leasehold property acquisition costs and costs associated with exploration wells and exploratory-type stratigraphic test wells, are transferred to production assets within property, plant and equipment. The capitalized exploration and development costs for proved oil and gas properties (which include the costs of drilling unsuccessful wells) are amortized on the basis of oil-equivalent barrels that are produced in a period as a percentage of the estimated proved reserves. Field development costs subject to depreciation are expenditures incurred to date, together with approved future development expenditure required to develop reserves. The estimated proved reserves used in these unit-of-production calculations vary with the nature of the capitalized expenditure. The reserves used in the calculation of the unit-of-production amortization are as follows: • Producing wells – proved developed reserves. • Licence and property acquisition, field development and future decommissioning costs – total proved reserves. The impact of changes in estimated proved reserves is dealt with prospectively by amortizing the remaining carrying value of the asset over the expected future production. If proved reserves estimates are revised downwards, earnings could be affected by higher depreciation expense or an immediate write-down of the property’s carrying value (see discussion of recoverability of asset carrying values on the following page). At the end of 2006, BP adopted the SEC rules for estimating reserves instead of the UK accounting rules contained in the UK Statement of Recommended Practice. These changes are explained in Financial statements – Note 10 on page 127. The estimation of oil and natural gas reserves and BP’s process to manage reserves bookings is described in Exploration and Production – Reserves and production on page 18. As discussed on the following page, oil and natural gas reserves have a direct impact on the assessment of the recoverability of asset carrying values reported in the financial statements. The 2008 movements in proved reserves are reflected in the tables showing movements in oil and gas reserves by region in Financial statements – Supplementary information on oil and natural gas on pages 182 to 190. i w e v e r e c n a m r o f r e P 61 Taxation The computation of the group’s income tax expense involves the interpretation of applicable tax laws and regulations in many jurisdictions throughout the world. The resolution of tax positions taken by the group, through negotiations with relevant tax authorities or through litigation, can take several years to complete and in some cases it is difficult to predict the ultimate outcome. In addition, the group has carry-forward tax losses in certain taxing jurisdictions that are available to offset against future taxable profit. However, deferred tax assets are recognized only to the extent that it is probable that taxable profit will be available against which the unused tax losses can be utilized. Management judgement is exercised in assessing whether this is the case. To the extent that actual outcomes differ from management’s estimates, taxation charges or credits may arise in future periods. For more information see Financial statements – Note 20 on page 135 and Note 44 on page 174. Derivative financial instruments The group uses derivative financial instruments to manage certain exposures to fluctuations in foreign currency exchange rates, interest rates and commodity prices as well as for trading purposes. In addition, derivatives embedded within other financial instruments or other host contracts are treated as separate derivatives when their risks and characteristics are not closely related to those of the host contract. All such derivatives are initially recognized at fair value on the date on which a derivative contract is entered into and are subsequently remeasured at fair value. Gains and losses arising from changes in the fair value of derivatives that are not designated as effective hedging instruments are recognized in the income statement. In some cases the fair values of derivatives are estimated using models and other valuation methods due to the absence of quoted prices or other observable, market-corroborated data. In particular, this applies to the majority of the group’s natural gas and LNG embedded derivatives. These are primarily long-term UK gas contracts that use pricing formulae not related to gas prices, for example, oil product and power prices. These contracts are valued using models with inputs that include price curves for each of the different products that are built up from active market pricing data and extrapolated to the expiry of the contracts using the maximum available external pricing information. Additionally, where limited data exists for certain products, prices are interpolated using historic and long-term pricing relationships. Price volatility is also an input for the models. Changes in the key assumptions could have a material impact on the gains and losses on embedded derivatives recognized in the income statement. For more information see Financial statements – Note 34 on page 150. An analysis of the sensitivity of the fair value of the natural gas and LNG derivatives to changes in the key assumptions is provided in Financial statements – Note 28 on page 142. BP Annual Report and Accounts 2008 Performance review Recoverability of asset carrying values BP assesses its fixed assets, including goodwill, for possible impairment if there are events or changes in circumstances that indicate that carrying values of the assets may not be recoverable and, as a result, charges for impairment are recognized in the group’s results from time to time. Such indicators include changes in the group’s business plans, changes in commodity prices leading to unprofitable performance, low plant utilization, evidence of physical damage and, for oil and gas properties, significant downward revisions of estimated volumes or increases in estimated future development expenditure. If there are low oil prices, natural gas prices, refining margins or marketing margins during an extended period, the group may need to recognize significant impairment charges. The assessment for impairment entails comparing the carrying value of the cash-generating unit with its recoverable amount, that is, the higher of fair value less costs to sell and value in use. Value in use is usually determined on the basis of discounted estimated future net cash flows. Determination as to whether and how much an asset is impaired involves management estimates on highly uncertain matters such as future commodity prices, the effects of inflation on operating expenses, discount rates, production profiles and the outlook for global or regional market supply-and-demand conditions for crude oil, natural gas and refined products. For oil and natural gas properties, the expected future cash flows are estimated based on the group’s plans to continue to develop and produce proved reserves and associated risk-adjusted probable and possible volumes. Expected future cash flows from the sale or production of these volumes are calculated based on the management’s best estimate of future oil and gas prices. Prices for oil and natural gas used for future cash flow calculations are based on market prices for the first five years and the group’s long-term planning assumptions thereafter. As at 31 December 2008, the group’s long-term planning assumptions were $75 per barrel for Brent and $7.50/mmBtu for Henry Hub (2007 $60 per barrel and $7.50/mmBtu). These long-term planning assumptions are subject to periodic review and modification. The estimated future level of production is based on assumptions about future commodity prices, lifting and development costs, field decline rates, market demand and supply, economic regulatory climates and other factors. The future cash flows are adjusted for risks specific to the cash- generating unit and are discounted using a pre-tax discount rate. The discount rate is derived from the group’s post-tax weighted average cost of capital and is adjusted where applicable to take into account any specific risks relating to the country where the cash-generating unit is located. Typically rates of 11% or 13% are used (2007 11% or 13%). The rate applied in each country is re-assessed each year by analyzing relevant information. Irrespective of whether there is any indication of impairment, BP is required to test annually for impairment of goodwill acquired in a business combination. The group carries goodwill of approximately $9.9 billion on its balance sheet, principally relating to the Atlantic Richfield and Burmah Castrol acquisitions. In testing goodwill for impairment, the group uses a similar approach to that described above. If there are low oil prices or natural gas prices or refining margins or marketing margins for an extended period, the group may need to recognize significant goodwill impairment charges. 62 BP Annual Report and Accounts 2008 Performance review Provisions and contingencies The group holds provisions for the future decommissioning of oil and natural gas production facilities and pipelines at the end of their economic lives. The largest asset removal obligations facing BP relate to the removal and disposal of oil and natural gas platforms and pipelines around the world. The estimated discounted costs of dismantling and removing these facilities are accrued on the installation of those facilities, reflecting our legal obligations at that time. A corresponding asset of an amount equivalent to the provision is also created within property, plant and equipment. This asset is depreciated over the expected life of the production facility or pipeline. Most of these removal events are many years in the future and the precise requirements that will have to be met when the removal event actually occurs are uncertain. Asset removal technologies and costs are constantly changing, as well as political, environmental, safety and public expectations. Consequently, the timing and amounts of future cash flows are subject to significant uncertainty. Changes in the expected future costs are reflected in both the provision and the asset. Decommissioning provisions associated with downstream and petrochemicals facilities are generally not provided for, as such potential obligations cannot be measured, given their indeterminate settlement dates. The group performs periodic reviews of its downstream and petrochemicals long-lived assets for any changes in facts and circumstances that might require the recognition of a decommissioning provision. The timing and amount of future expenditures are reviewed annually, together with the interest rate used in discounting the cash flows. The interest rate used to determine the balance sheet obligation at the end of 2008 was 2%, unchanged from the end of 2007. The interest rate represents the real rate (i.e. adjusted for inflation) on long-dated government bonds. Other provisions and liabilities are recognized in the period when it becomes probable that there will be a future outflow of funds resulting from past operations or events and the amount of cash outflow can be reliably estimated. The timing of recognition requires the application of judgement to existing facts and circumstances, which can be subject to change. Since the actual cash outflows can take place many years in the future, the carrying amounts of provisions and liabilities are reviewed regularly and adjusted to take account of changing facts and circumstances. A change in estimate of a recognized provision or liability would result in a charge or credit to net income in the period in which the change occurs (with the exception of decommissioning costs as described above). Provisions for environmental clean-up and remediation costs are based on current legal and constructive requirements, technology, price levels and expected plans for remediation. Actual costs and cash outflows can differ from estimates because of changes in laws and regulations, public expectations, prices, discovery and analysis of site conditions and changes in clean-up technology. The provision for environmental liabilities is reviewed at least annually. The interest rate used to determine the balance sheet obligation at 31 December 2008 was 2%, the same rate as at the previous balance sheet date. As further described in Financial statements – Note 44 on page 174, the group is subject to claims and actions. The facts and circumstances relating to particular cases are evaluated regularly in determining whether it is ‘probable’ that there will be a future outflow of funds and, once established, whether a provision relating to a specific litigation should be adjusted. Accordingly, significant management judgement relating to contingent liabilities is required, since the outcome of litigation is difficult to predict. Pensions and other post-retirement benefits Accounting for pensions and other post-retirement benefits involves judgement about uncertain events, including estimated retirement dates, salary levels at retirement, mortality rates, rates of return on plan assets, determination of discount rates for measuring plan obligations, healthcare cost trend rates and rates of utilization of healthcare services by retirees. These assumptions are based on the environment in each country. Determination of the projected benefit obligations for the group’s defined benefit pension and post-retirement plans is important to the recorded amounts for such obligations on the balance sheet and to the amount of benefit expense in the income statement. The assumptions used may vary from year to year, which will affect future results of operations. Any differences between these assumptions and the actual outcome also affect future results of operations. Pension and other post-retirement benefit assumptions are reviewed by management at the end of each year. These assumptions are used to determine the projected benefit obligation at the year-end and hence the surpluses and deficits recorded on the group’s balance sheet, and pension and other post-retirement benefit expense for the following year. The pension and other post-retirement benefit assumptions at 31 December 2008, 2007 and 2006 are provided in Financial statements – Note 38 on page 159. The assumed rate of investment return, discount rate and the US healthcare cost trend rate have a significant effect on the amounts reported. A sensitivity analysis of the impact of changes in these assumptions on the benefit expense and obligation is provided in Financial statements – Note 38 on page 159. In addition to the financial assumptions, we regularly review the demographic and mortality assumptions. Mortality assumptions reflect best practice in the countries in which we provide pensions and have been chosen with regard to the latest available published tables adjusted where appropriate to reflect the experience of the group and an extrapolation of past longevity improvements into the future. BP’s most substantial pension liabilities are in the UK, US and Germany and the mortality assumptions for these countries are detailed in Financial statements – Note 38 on page 159. i w e v e r e c n a m r o f r e P 63 64 Board performance and biographies 66 Directors and senior management 69 BP board performance report i i s e h p a r g o b d n a e c n a m r o f r e p d r a o B BP Annual Report and Accounts 2008 Directors and senior management Directors and senior management The following lists the company’s directors and senior management as at 18 February 2009. Name P D Sutherland Chairman Sir Ian Prosser Non-Executive Deputy Chairman A Burgmans C B Carroll Sir William Castell G David E B Davis, Jr D J Flint Dr D S Julius Sir Tom McKillop Dr A B Hayward Non-Executive Director Non-Executive Director Non-Executive Director Non-Executive Director Non-Executive Director Non-Executive Director Non-Executive Director Non-Executive Director Executive Director (Group Chief Executive) I C Conn Dr B E Grote A G Inglis R Bondy S Bott V Cox H L McKay J Mogford S Westwell Executive Director (Chief Executive, Refining and Marketing) Executive Director (Chief Financial Officer) Executive Director (Chief Executive, Exploration and Production) Group General Counsel Executive Vice President, Human Resources Executive Vice President, Alternative Energy Executive Vice President (Chairman and President of BP America Inc.) Executive Vice President (Chief Operating Officer, Refining and US Fuels Value Chains) Executive Vice President (Group Chief of Staff) Initially elected or appointed Chairman since May 1997 Director since July 1995 Deputy chairman since February 1999 Director since May 1997 February 2004 June 2007 July 2006 February 2008 December 1998 January 2005 November 2001 July 2004 Group Chief Executive since May 2007 Director since February 2003 July 2004 August 2000 February 2007 May 2008 March 2005 July 2004 June 2008 October 2007 January 2008 Mr H L McKay, previously executive vice president (special projects), was appointed chairman and president of BP America Inc. on the retirement of Mr R A Malone on 1 February 2009. Dr D C Allen retired as a director on 31 March 2008 and Dr W E Massey retired as a director on 17 April 2008. Mr G David was appointed a non- executive director on 11 February 2008. At the company’s 2008 annual general meeting (AGM), the following directors retired, offered themselves for election/re-election and were duly elected/re-elected: Mr A Burgmans; Mrs C B Carroll; Sir William Castell; Mr I C Conn; Mr G David, Mr E B Davis, Jr; Mr D J Flint; Dr B E Grote; Dr A B Hayward; Mr A G Inglis; Dr D S Julius; Sir Tom McKillop; Sir Ian Prosser and Mr P D Sutherland. Mr R Dudley has been appointed to the board with effect from 6 April 2009. All of the directors, including Mr Dudley, will offer themselves for election/ re-election at the company’s 2009 AGM. David Jackson (56) was appointed company secretary in 2003. A solicitor, he is a director of BP Pension Trustees Limited and a member of the Listing Authorities Advisory Committee. 66 BP Annual Report and Accounts 2008 Directors and senior management Directors P D Sutherland, SC, KCMG Chairman of the chairman’s and the nomination committees and attends meetings of the remuneration committee Peter Sutherland (62) rejoined BP’s board in 1995, having been a non- executive director from 1990 to 1993, and was appointed chairman in 1997. He is non-executive chairman of Goldman Sachs International and was a non-executive director of The Royal Bank of Scotland Group PLC from 2001 to 6 February 2009. Sir Ian Prosser Member of the chairman’s, the nomination and the remuneration committees and chairman of the audit committee Sir Ian (65) joined BP’s board in 1997 and was appointed non-executive deputy chairman in 1999. He is the senior independent director. In 2003, he retired as chairman of InterContinental Hotels Group PLC, a spin-off from the former Bass PLC where he was chief executive. He is a non-executive director and senior independent director of GlaxoSmithKline plc, a non-executive director of the Sara Lee Corporation and non-executive chairman of The Navy, Army and Air Force Institutes (NAAFI). He was previously on the boards of The Boots Company PLC and Lloyds TSB PLC. A Burgmans, KBE Member of the chairman’s and the safety, ethics and environment assurance committees Antony Burgmans (62) joined BP’s board in 2004. He was appointed to the board of Unilever in 1991. In 1999, he became chairman of Unilever NV and vice chairman of Unilever PLC. In 2005, he became non-executive chairman of Unilever PLC and Unilever NV, retiring from these appointments in May 2007. He is also a member of the supervisory boards of Akzo Nobel NV and Aegon NV. C B Carroll Member of the chairman’s and safety, ethics and environment assurance committees Cynthia Carroll (52) joined BP’s board in June 2007. She started her career at Amoco and in 1989 she joined Alcan, where in 2002 she was appointed president and chief executive officer of Alcan’s primary metals group and an officer of Alcan, Inc. She was appointed as chief executive of Anglo American plc, the global mining group, in March 2007. She is also a director of De Beers s.a. and Anglo Platinum Ltd. Sir William Castell, LVO Member of the chairman’s committee and chairman of the safety, ethics and environment assurance committee Sir William (61) joined BP’s board in 2006. From 1990 to 2004, he was chief executive of Amersham plc and subsequently president and chief executive officer of GE Healthcare. He was appointed as a vice chairman of the board of GE in 2004, stepping down from this post in 2006 when he became chairman of the Wellcome Trust. He remains a non-executive director of GE. G David Member of the chairman’s and the audit committees George David (66) joined BP’s board on 11 February 2008. He has spent his career with United Technologies Corporation (UTC), as its chief executive officer from 1994 to 2008 and chairman since 1997. He joined UTC’s Otis elevator subsidiary in 1975. E B Davis, Jr Member of the chairman’s, the audit and the remuneration committees Erroll B Davis, Jr (64) joined BP’s board in 1998, having previously been a director of Amoco. He was chairman and chief executive officer of Alliant Energy, relinquishing this dual appointment in 2005. He continued as chairman of Alliant Energy until February 2006, leaving to become chancellor of the University System of Georgia. He is a member of the board of General Motors Corporation and Union Pacific Corporation. D J Flint, CBE Member of the chairman’s and the audit committees Douglas Flint (53) joined BP’s board in 2005. He trained as a chartered accountant and became a partner at KPMG in 1988. In 1995, he was appointed group finance director of HSBC Holdings plc. He was chairman of the Financial Reporting Council’s review of the Turnbull Guidance on Internal Control. Between 2001 and 2004, he served on the Accounting Standards Board and the Standards Advisory Council of the International Accounting Standards Board. Dr D S Julius, CBE Member of the chairman’s and the nomination committees and chairman of the remuneration committee DeAnne Julius (59) joined BP’s board in 2001. She began her career as a project economist with the World Bank in Washington. From 1986 until 1997, she held a succession of posts, including chief economist at British Airways and Royal Dutch Shell Group. From 1997 to 2001, she was a full time member of the Monetary Policy Committee of the Bank of England. She is chairman of the Royal Institute of International Affairs and a non- executive director of Roche Holdings SA and Jones Lang LaSalle, Inc. Sir Tom McKillop Member of the chairman’s, the remuneration and the safety, ethics and environment assurance committees Sir Tom (65) joined BP’s board in 2004. Sir Tom was chief executive of AstraZeneca PLC from the merger of Astra AB and Zeneca Group PLC in 1999 until December 2005. He was a non-executive director of Lloyds TSB Group PLC until 2004 and was appointed to the board of The Royal Bank of Scotland Group PLC in 2005, where he was chairman from 2006 to 3 February 2009. Dr A B Hayward Tony Hayward (51) joined BP in 1982. He held a series of roles in exploration and production, becoming a director of exploration and production in 1997. In 2000, he was made group treasurer, and an executive vice president in 2002. He was chief executive officer of exploration and production between 2002 and February 2007. He became an executive director of BP in 2003 and was appointed as group chief executive in May 2007. Dr Hayward is a non-executive director and senior independent director of Tata Steel. I C Conn Iain Conn (46) joined BP in 1986. Following a variety of roles in oil trading, commercial refining, retail and commercial marketing operations, and exploration and production, in 2000 he became group vice president of BP’s refining and marketing business. From 2002 to 2004, he was chief executive of petrochemicals. He was appointed group executive officer with a range of regional and functional responsibilities and an executive director in 2004. He was appointed chief executive of refining and marketing in June 2007. He is a non-executive director and senior independent director of Rolls-Royce Group plc. 67 i i s e h p a r g o b d n a e c n a m r o f r e p d r a o B H L McKay Lamar McKay (50) was appointed chairman and president of BP America, Inc. from 1 February 2009. He joined Amoco Production Company as a petroleum engineer in 1980 and later served in a variety of operating, commercial and M&A roles. In 1993, he became general manager of Arkoma Basin and in 1997, the business unit leader for the Gulf of Mexico Shelf. During 1998-2000, he worked on the BP-Amoco merger and served as general manager for BP p.l.c. worldwide exploration and production strategy and planning. In 2000, he became business unit leader for the Central North Sea in Aberdeen, and subsequently chief of staff for worldwide exploration and production in London, following which he served as chief of staff for the BP deputy group chief executive. Lamar then worked as group vice president for Russia & Kazakhstan, during which time he was appointed to the board of TNK-BP. He was named executive vice-president of BP America and COO in the USA in May 2007. In early 2008, he became executive vice president of BP p.l.c. special projects, focusing on Russia, subsequently joining the group executive management team in June 2008. J Mogford John Mogford (55) joined BP in 1977, spending the early part of his career in a variety of drilling and production roles. In 1999, he became group vice president for health, safety and the environment before being appointed as group vice president for gas, power and renewables in 2002. In 2004, he returned to exploration and production as group vice president (technology and functions). In 2005, he was appointed as senior group vice president of safety and operations before becoming executive vice president, safety and operations in October 2007. He became chief operating officer of refining from 1 March 2008. On 15 January 2009, he moved to chief operating officer for US fuels value chains and head of refining. S Westwell Steve Westwell (50) joined BP in the manufacturing and supply division of BP Southern Africa in 1988. Following various retail positions in the UK and the US he was appointed head of retail and a member of the board of BP Southern Africa Pty. In 2003, he became president and chief executive officer of BP solar, and in 2004, group vice president of natural gas liquids, power, solar and renewables. In 2005, he was appointed group vice president of alternative energy. He was appointed group chief of staff on 1 January 2008. BP Annual Report and Accounts 2008 Directors and senior management Dr B E Grote Byron Grote (60) joined BP in 1987 following the acquisition of The Standard Oil Company of Ohio, where he had worked since 1979. He became group treasurer in 1992 and in 1994 regional chief executive in Latin America. In 1999, he was appointed an executive vice president of exploration and production, and chief executive of chemicals in 2000. He was appointed an executive director of BP in 2000 and chief financial officer in 2002. He is a non-executive director of Unilever NV and Unilever PLC. A G Inglis Andy Inglis (49) joined BP in 1980, working on various North Sea projects. Following a series of commercial roles in exploration, in 1996 he became chief of staff, exploration and production. From 1997 until 1999, he was responsible for leading BP’s activities in the deepwater Gulf of Mexico. In 1999, he was appointed vice president of BP’s US western gas business unit. In 2004, he became executive vice president and deputy chief executive of exploration and production. He was appointed chief executive of BP’s exploration and production business and an executive director in February 2007. He is a non-executive director of BAE Systems plc. Senior management R Bondy Rupert Bondy (47) joined BP as group general counsel in May 2008. In 1989 he joined US law firm Morrison & Foerster, working in San Francisco and London. From 1994 to 1995, he worked for UK law firm Lovells in London. In 1995, he joined SmithKline Beecham as senior counsel for mergers and acquisitions and other corporate matters. He subsequently held positions of increasing responsibility and following the merger of SmithKline Beecham and GlaxoWellcome he was appointed senior vice president and general counsel of GlaxoSmithKline in 2001. S Bott Sally Bott (59) joined BP in 2005 as an executive vice president responsible for global human resources. Sally joined Citibank in 1970 and, following a variety of roles, was appointed a vice president in human resources in 1979 and subsequently held a series of positions as a human resources director to sectors of Citibank. In 1994, she joined Barclays De Zoete Wedd, an investment bank, as head of human resources and in 1997 became group human resources director of Barclays plc. From 2000 to early 2005, she was managing director of Marsh and McLennan and head of global human resources at Marsh Inc. In 2008, Sally was elected as a non-executive director of UBS AG. V Cox Vivienne Cox (49) joined BP in 1981. Following a series of commercial roles, she was appointed chief executive of Air BP in 1998. From 1999 until 2001, she was group vice president of BP Oil, responsible for business-to-business marketing and oil supply and trading. From 2001 to 2004, she was group vice president for integrated supply and trading. In 2004, she was appointed an executive vice president, responsible for gas, power and renewables in addition to the supply and trading businesses. In late 2005, she became responsible for Alternative Energy. She is a non-executive director of Rio Tinto plc and Climate Change Capital Limited. 68 BP Annual Report and Accounts 2008 BP board performance report BP board performance report year depending on the exigencies of the business as they arise. During the year the board was involved in the following activities: Letter from the chairman I am once again pleased to introduce our board performance report. The report reviews the work of the board and its committees as my tenure as chairman moves to a close. Over the past 12 years, both the calibre of individuals who have served on the board and our system of governance has stood us in good stead. The strong set of principles on which we base our governance framework, which include clarity of roles, separation of powers, independence and appropriate skills, remain valid today. I have been encouraged from discussions with shareholders over time that our approach to governance and the dialogue which we continue to have with them is welcomed. This is important to us and no more so than during the testing times in which we operate. Recent events and the current economic climate have inevitably triggered further debate about governance. This I welcome. The framework of governance does need to be kept under review and, where necessary, challenged by investors, regulators and companies themselves to ensure that the system is delivering. Under such a review I believe that BP’s governance approach can show its strength. It requires active engagement on behalf of the company and investors alike. I do not believe that our comply or explain system is broken and it is important for us that the principles-based system continues. Peter Sutherland Chairman 24 February 2009 Board governance principles The board governance principles (‘principles’) are designed to enable the board and the executive management to operate within a clear framework. The principles describe the role of the board, its processes, its relationship with executive management and the main tasks and requirements of the board committees. The principles are available at www.bp.com/corporategovernance. In carrying out its work, the board focuses on key tasks, which include the active review of the long-term strategy and the annual plan, monitoring the decisions and actions of the group chief executive, the performance of BP, the succession of executive management and the oversight of risk. The principles outline how the board delegates its authority for executive management of the company to the group chief executive, subject to monitoring by the board and a clearly defined set of limitations. These ‘executive limitations’ require that any executive action taken in the course of business takes specific issues into consideration, including health, safety and the environment, any reputational impact on BP, risk and the framework for internal control. Operating the principles The group chief executive through the annual plan describes to the board how the strategy is to be delivered, together with an assessment of the group’s risks. During the year, the board monitors progress and keeps the strategy under review. The group chief executive is obliged to review and discuss with the board all strategic projects or developments and all material matters currently or prospectively affecting the company and its performance. The principles are kept under review by the board to ensure they remain relevant and up to date. Board activities in 2008 As outlined above, the board focuses on key areas in carrying out its work. Forward agendas are set to determine a high level work programme for the board based on its core tasks (including dealing with strategy and monitoring) but additional items are added throughout the Strategy and Risk The board undertook extensive discussions on strategic options for the group, including the future business and competitive environment, technology developments, pricing and demand models and portfolio options. The identification and management of group risks were reviewed by the board, together with how these risks and their mitigation were embedded in the group’s annual plan. Review of capital expenditure and post investment review While the audit committee reviewed project delivery performance, the board undertook an annual review of the group’s project sanctioning process and delegation of authority. The process and criteria for each stage of a project was discussed, together with examples of projects with different lead times and complexities. Business review Business reviews were held with both segments (Exploration and Production and Refining and Marketing) and the finance and information technology and services (IT&S) functions. Global economic environment and energy markets The board actively monitored developments in the global energy markets and economic environment. Issues considered included the supply/demand balance, the relationship between oil prices, energy consumption and GDP growth and turbulence in the financial markets. Other areas Other areas discussed by the board included interactions with BP’s partners in TNK-BP, the results of a group-wide employee satisfaction survey and the findings of a report on BP’s reputation in the UK and US. The board also received a presentation from the independent expert appointed to provide an objective assessment of BP’s progress in implementing the recommendations of the BP US Refineries Independent Safety Review Panel (the Panel). The board is supported in its tasks by the company secretary, who reports to the chairman and has no executive functions. His remuneration is determined by the remuneration committee. Board meetings and attendance The board met nine times during 2008, of which one meeting was a two-day strategy session and another meeting was a one-day strategy session. P D Sutherland Sir Ian Prosser A Burgmans C B Carroll Sir William Castell G David E B Davis, Jr D J Flint Dr D S Julius Sir Tom McKillop Dr W E Massey Dr D C Allen I C Conn Dr B E Grote Dr A B Hayward A G Inglis Board meetings eligible to attend 9 9 9 9 9 7 9 9 9 9 4 3 9 9 9 9 Board meetings attended 9 9 9 9 9 7 8 7 9 9 4 3 9 9 9 9 69 i i s e h p a r g o b d n a e c n a m r o f r e p d r a o B BP Annual Report and Accounts 2008 BP board performance report The chairman and senior independent director The principles require that neither the chairman nor deputy chairman be employed as an executive of the group. During 2008, these posts were held by Peter Sutherland and Sir Ian Prosser respectively. The chairman provides leadership of the board, acts as facilitator for meetings and ensures that the governance framework of the board is maintained and operated. The chairman also leads board performance appraisals. He represents the views of the board to shareholders on key issues, in particular those relating to governance and succession planning and informs the board of shareholder views. Between board meetings, the chairman has responsibility for ensuring the integrity and effectiveness of the relationship with executive management. This requires his interaction with the group chief executive, as well as his contact with other board members, senior management and stakeholders. The deputy chairman acts for the chairman in his absence or at his request. The deputy chairman also serves as the board’s senior independent director and is available to shareholders where there are issues that cannot be addressed through normal channels. The chairman and all the non-executive directors meet periodically without the presence of executive management as the chairman’s committee. The performance of the chairman is evaluated each year, with the evaluation discussion taking place when the chairman is not present. The principles require that the board develop and maintain a plan for the succession of both the chairman and deputy chairman. Board composition The principles require that over half the board, excluding the chairman, comprise independent non-executive directors and that the number of directors to not normally exceed 16. The board is composed of the chairman, nine non-executive and four executive directors. The board considers that it is of an appropriate size to govern BP, with its directors possessing the relevant backgrounds and mix of experience, knowledge and skills to maximize its effectiveness. Board renewal and skills The board remains actively engaged in orderly succession planning for both executive and non-executive directors and is assisted in this task by the nomination committee. The committee keeps under review the composition, skills and diversity of the board to ensure that it remains appropriate to the tasks and work it undertakes. The nomination committee believes a breadth of skills is required for the board to meet the demands of a business with global operations. These skills include deep operational, engineering, safety and financial expertise, experience of leading industrial, capital intensive or ‘long lead time’ businesses and insight into key emerging markets and technology development. The board: terms of appointment The chairman and non-executive directors of BP serve on the basis of letters of appointment. Executive directors of BP have service contracts with the company. Details of all payments to directors are described in the directors’ remuneration report. The service contracts of executive directors are expressed to expire at a normal retirement age of 60 (subject to age discrimination), while non-executive directors ordinarily retire at the AGM following their 70th birthday. In accordance with BP’s Articles of Association, directors are granted an indemnity from the company in respect of liabilities incurred as a result of their office, to the extent permitted by law. In respect of those liabilities for which directors may not be indemnified, the company maintained a directors’ and officers’ liability insurance policy throughout 2008. During the year, a review of the terms and nature of the policy was undertaken and has been renewed for 2009. Although their defence costs may be met, neither the company’s indemnity nor insurance provides cover in the event that the director is proved to have acted 70 fraudulently or dishonestly. Following recent changes to company law, the company is also permitted to advance costs to directors for their defence in investigations or legal actions. Director elections New board directors are subject to election by shareholders at the first AGM following their appointment. All existing directors stand for re-election each year – a practice the company has followed since 2004. All directors proposed to shareholders for election are accompanied by a biography and a description of the skills and experience that the company feels are relevant. Voting levels at the 2008 AGM demonstrated continued support for all board directors. Board independence Non-executive directors are required by the principles to be independent in character and free from any business or other relationship that could materially interfere with the exercise of their judgement. The board has determined that the non-executive directors who served during 2008 fulfilled this requirement and were independent. BP believes that tenure of board members should be determined on the basis of contribution and continued evidence of the exercise of independent judgement. As all directors are proposed for annual re-election by shareholders, the board considers that arbitrary term limits on a director’s service are not appropriate. Sir Ian Prosser joined the board in 1997. It is the view of the board that he remains firmly independent. His experience and long-term perspective on BP’s business have provided and continue to provide a valuable contribution to the board and the audit committee, which he chairs. As deputy chairman and senior independent director, Sir Ian is leading the board’s search for the successor to the current chairman. He has been asked by the board to remain in post until April 2010 in order that he may conclude both the chairman’s succession process and the identification and appointment by the new chairman of a senior independent director. Mr Davis joined the board on the completion of the Amoco merger in December 1998. The board believes Mr Davis continues to demonstrate his independence. He is an active participant at the board and sits on the audit and remuneration committees, and the high level of his independence is demonstrated by his engagement in these forums. The board has satisfied itself that there is no compromise to the independence of those directors who serve together as directors on the boards of outside entities (or who have other appointments in outside entities). From 1 October 2008, there has been a requirement that directors must avoid a situation where they have, or can have, a direct or indirect interest that conflicts, or possibly may conflict, with the company’s interests. Directors of public companies may authorize conflicts and potential conflicts, where appropriate, if a company’s articles of association permit and shareholders have approved appropriate amendments. Procedures have been put in place for the disclosure by directors of any such conflicts and also for the consideration and authorization of these conflicts by the board. These procedures allow for the imposition of limits or conditions by the board when authorizing any conflict, if they think this is appropriate. These procedures were duly followed to approve appropriate conflicts immediately prior to the enactment of the conflict provisions in October 2008, and are now included as a regular standing item for consideration by the board at its meetings. BP Annual Report and Accounts 2008 BP board performance report Serving as a director Induction The induction of new board members is the responsibility of the chairman, who is assisted by the company secretary in this task. All new directors receive a full induction programme, including a ‘core’ element covering the principles and the legal and regulatory duties of directors. Non-executive directors receive further induction content devised according to their own interests and needs, together with the requirements of the committees on which they will serve. This would include meetings and briefings on the operations and activities of the group, the strategy and the annual plan and the company’s financial performance. The induction programme is targeted for completion within the first nine to 12 months of non-executive directors taking office, while the executive director programme is arranged in the course of their business activities. Training and site visits Directors and committee members receive briefings on BP’s business, its markets, operating environment and other key issues during their tenure as directors to ensure they have the necessary skill and knowledge to perform their duties effectively. Board members are also kept updated on legal and regulatory developments that may impact their duties and obligations as directors of a listed company. In the past two years, the board and its committees have sought greater opportunity to meet at BP’s operating sites. This has enabled board members to see a selection of BP’s businesses e.g. the Texas City refinery, gas production in Colorado, exploration and production activities in Azerbaijan and the alternative energy solar facility in Maryland. These site visits have given directors the opportunity to meet both operational staff and government and community leaders in the parts of the world where BP operates. All non-executive directors are required to participate in at least one site visit per year. Outside appointments BP recognizes that executive directors may be invited to become non- executive directors of other companies and that such appointments can broaden their knowledge and experience, to the benefit of the individual and the group. Executive directors are permitted to take up one external board appointment, subject to the agreement of the chairman and reported to the BP board. Fees received for these external appointments may be retained by the executive director and are reported in the directors’ remuneration report. Non-executive directors may serve on a number of outside boards, provided they continue to demonstrate the requisite commitment to discharge their duties to BP effectively. The nomination committee keeps under review the nature of directors’ other interests to ensure that the efficacy of the board is not compromised and may make recommendations to the board if it concludes that a director’s other commitments are inconsistent with those required by BP. Board evaluation The principles stipulate that the performance and effectiveness of the board, including the work of its committees, should be evaluated annually. In 2008, this evaluation was undertaken internally with the use of a questionnaire. The questionnaire focused on areas including the conduct of meetings, activities of the board versus committees, monitoring and information and board support and built on the review of board operations and governance that had taken place in 2007. The main outcome of the evaluation was a requirement for a more systematic approach to ensure that the skills of the directors met the changing demands of the business and the environment in which it operates. Engagement with shareholders The board is accountable to shareholders for the performance and activities of the BP group and engages in regular dialogue to understand their views and preferences. However, the board also recognizes that, in conducting its business, BP should be responsive to other relevant constituencies. During the year, the chairman and deputy chairman met with institutional shareholders to discuss issues relating to the board, governance, strategy and performance. The remuneration committee chairman met with larger shareholders to discuss executive director remuneration. The group chief executive, other executive directors and senior management, company secretary’s office, investor relations and other teams within BP also engage with a range of shareholders on wider issues relating to the group, including in particular its safety, operational and financial performance. Presentations given by the group to the investment community are available to download from the ‘Investors’ section of BP’s website, as are speeches on topics of broad interest to shareholders made by the group chief executive and other senior members of the management team. AGM BP’s AGM enables shareholders to ask questions and hear the resulting discussion about the company’s performance and the directors’ stewardship of the company. Votes on all matters (except procedural issues) are taken by a poll at the AGM, meaning that every vote cast – whether by proxy or in person at the meeting – is counted. The chairman, board committee chairmen and other directors were present during the 2008 AGM and met shareholders on an informal basis after the main business of the meeting. In 2008, voting levels at the AGM increased to 64%, compared with 61% in 2007. Last year was also the first time that the AGM was webcast. This will be repeated for the company’s forthcoming meeting. The webcast, speeches and presentations given at the AGM are available to download from the BP website after the event, together with the outcome of voting on the resolutions. Board committees The principles allocate the tasks of monitoring executive actions and assessing performance to certain board committees. These tasks prescribe the authority and role of the board committees. Reports for each of the main board committees follow. In common with the board, each committee has access to independent advice and counsel as required and each is supported by the company secretary’s office, which is independent of the executive management of the group. The main tasks and requirements of each of the board’s committees are set out in the principles, available at www.bp.com/corporategovernance. Audit committee report Membership The audit committee comprises four independent non-executive directors who have been selected to provide a wide range of financial, international and commercial expertise appropriate to fulfil the committee’s duties. During the year, Sir Ian Prosser (chairman), Douglas Flint and Erroll Davis, Jr were members of the audit committee. Sir William Castell retired from the committee in April 2008 and George David joined in May 2008. The secretary to the committee is David Pearl, deputy company secretary of BP. The board considers that Douglas Flint possesses the financial and audit committee experience, as defined by the Combined Code guidance and the SEC, and has nominated him as the audit committee’s financial expert. 71 i i s e h p a r g o b d n a e c n a m r o f r e p d r a o B BP Annual Report and Accounts 2008 BP board performance report Attendance The audit committee met 13 times during 2008. Sir Ian Prosser (chairman) E B Davis, Jr D J Flint G David Sir William Castell (former member) Audit committee meetings eligible to attend 13 13 13 6 7 Audit committee meetings attended 13 10 13 6 7 In addition to the above members, the committee invites the lead partner of the external auditors (Ernst & Young), the group chief financial officer, the general auditor (head of internal audit), the chief accounting officer and the deputy chief financial officer to attend each meeting. Other senior management attend on request to enable the committee to discharge its duties. The committee also holds private sessions during the year without the presence of executive management. Role and authority of the audit committee The audit committee assists the board in carrying out its responsibilities in relation to financial risk, internal controls, financial and regulatory reporting requirements and the broader observance of the ‘executive limitations’ relating to financial matters. The main tasks and requirements for the audit committee are set out in the principles. The audit committee believes that these meet each of the tasks and activities outlined by the Combined Code as falling within the remit of an audit committee. Information The committee receives information and reports from internal and external sources, including a wide cross-section of BP’s business and financial control management, with the attendance of additional Ernst & Young staff if appropriate to a particular business or functional review. The audit committee is able to access independent advice and counsel when needed, on an unrestricted basis. Further support is provided to the committee by the company secretary’s office and during 2008 external specialist legal and regulatory advice was provided by Sullivan & Cromwell LLP. The wider board is kept informed of the activities of the committee, and any issues that have arisen, through the regular update given by the audit committee chair after each meeting. Training and induction BP provides an induction programme for new committee members and ongoing training to assist them in carrying out their duties. Elements of the induction programme include familiarization with the tasks and requirements of the audit committee, an overview of the key financial and operational aspects of the businesses and an introduction to the group’s system of internal control. During the year, George David participated in the audit committee induction, including private sessions with the lead external audit partner and the general auditor. In 2008, the training programme for the audit committee included briefings on developments in financial reporting and financial standards, a site visit to BP’s UK trading operations and an externally facilitated session on tax risk management. Committee activities in 2008 The chart at the end of this section shows how the audit committee allocated its agenda time in 2008. Financial reporting During the year, the committee reviewed all financial reports, including the Annual Report and Accounts and Annual Report on Form 20-F, before recommending their publication to the board. Monitoring risk in the business In 2008, the audit committee reviewed reports on risks, controls and assurance for the BP business segments (Exploration and Production, Refining and Marketing), together with alternative energy, information technology and services, the proposed reorganization of the group finance function and BP’s trading function. The committee also reviewed BP’s long-term contractual commitments and the provisions made for environmental remediation and decommissioning. Internal controls A joint meeting with the safety, ethics and environment assurance committee was held to review the general auditor’s report on internal controls and risk management. A further joint meeting was held in early 2009 to assist the board in its assessment of the effectiveness of internal controls and risk management in 2008. The committee discussed key regulatory issues during the year as part of its standing agenda items, including the quarterly internal audit findings report and a review of the company’s evaluation of its internal controls systems as part of the requirement of Section 404 of the Sarbanes-Oxley Act. The effectiveness of BP’s enterprise level controls was examined through the annual assessment undertaken by the internal audit function. External auditors The lead audit partner from Ernst & Young attends all meetings of the audit committee at the request of the committee chairman. Other external audit staff are invited to attend meetings where their expertise is relevant to the agenda item, for example during business or technical reviews. The committee held two private meetings during the year with the external auditors without the presence of BP management, in order to discuss issues or concerns from either the committee or the auditors. Performance of the external auditors is evaluated by the audit committee each year, with particular scrutiny of their independence, objectivity and viability. Independence is maintained through the limiting of non-audit services to tax and audit-related work that fall within defined categories. This work is pre-approved by the audit committee and all non-audit services are monitored quarterly. Fees paid to the external auditors for the year (see Financial statements – Note 18 on page 134) were $67 million, of which 14% was for non-audit work. The fees and services provided by Ernst & Young for both audit and non-audit work have decreased in comparison to the previous year due to improved audit efficiency, ongoing systems improvements and BP’s new business structure. During the year, a new lead partner from Ernst & Young replaced the existing partner who had completed five years’ service on the BP audit in early 2008. Under BP policy and pursuant to external regulation, a new lead audit partner is appointed every five years and other senior audit staff are rotated every seven years. No partners or senior staff from Ernst & Young who are connected with the BP audit may transfer to the group. The audit committee has considered both the proposed fee structure and the audit engagement terms for 2009 and has recommended to the board that the reappointment of the external auditors be proposed to shareholders at the 2009 AGM. 72 BP Annual Report and Accounts 2008 BP board performance report Internal audit The general auditor attends each committee meeting at the invitation of the audit committee chairman. With the retirement of the general auditor in early 2008, a new general auditor was appointed following an externally facilitated recruitment process. During the year, the audit committee evaluated the performance of the internal audit function and agreed to the proposed programme of work for the year (being satisfied that it appropriately responded to the key risks facing the company and that the function had adequate staff and resources to complete its work). In 2008, the committee met once with the general auditor in a private session without the presence of executive management. In addition, the general auditor met with the chairman of the committee from time to time between meetings. Fraud and employee concerns on financial matters The audit committee received an annual certification report from the group compliance and ethics function, together with quarterly reports that highlighted financial issues raised through OpenTalk, the group-wide employee concerns programme. The committee further received quarterly updates from internal audit on instances of actual or potential fraud. Audit committee activities Approximate allocation of agenda time in 2008* 4% 34% 26% 36% Financial reporting Monitoring business risk Internal controls and audit Other agenda items *Excludes time spent on site visits Committee performance evaluation The committee conducts a yearly evaluation of its performance through one-to-one interviews or questionnaires. The results are collated and reported by the committee secretary. Actions taken in 2008 as a result of the end 2007 evaluation included participation in an externally facilitated training session and improved tracking of outstanding issues. In addition, the committee considers performance during its private sessions throughout the year. The 2008 evaluation was conducted through individual interviews and the outcomes discussed by the committee in January 2009. The forward agenda for the year ahead was set following this review, and consideration was given to building on the training provided to members through site visits. The audit committee plans to meet 13 times during 2009. Safety, ethics and environment assurance committee report Membership The committee consists solely of independent non-executive directors who have been selected to provide a wide range of operational and international expertise appropriate to fulfil the committee’s duties. Members of the safety, ethics and environment assurance committee (SEEAC) during 2008 were Antony Burgmans, Sir William Castell and Sir Tom McKillop. Dr Massey retired as chairman of SEEAC in April 2008 and Sir William Castell became the committee chairman from that date. Cynthia Carroll joined the committee in June 2008. Support was provided by the committee secretary, David Pearl (deputy company secretary). Attendance SEEAC met eight times during 2008. Sir William Castell (chairman) A Burgmans C B Carroll Sir Tom McKillop Dr W E Massey (former member) SEEAC meetings eligible to attend 8 8 3 8 4 SEEAC meetings attended 8 8 2 8 4 In addition to the above members, each SEEAC meeting is attended by the lead partner of the external auditors (Ernst & Young) and the BP general auditor (head of internal audit) on the invitation of the committee chairman. The group chief executive also attends committee meetings as the executive liaison with SEEAC: Dr Hayward attended all eight meetings of the committee in 2008. The committee holds private sessions without executive management in attendance at the end of each meeting. Role and authority of the committee The main tasks and requirements for SEEAC are set out in the principles and include among others: (cid:129) Monitoring and obtaining assurance on behalf of the board that the management or mitigation of significant BP risks of a non-financial nature is appropriately addressed by the group chief executive. (cid:129) Reviewing material to be placed before shareholders that addresses environmental, safety and ethical performance and make recommendations to the board about their adoption and publication. (cid:129) Reviewing reports on the group’s compliance with its code of conduct and on the employee concerns programme (OpenTalk) as it relates to non-financial issues. Information The committee receives information and reports from the safety and operations function, internal and external sources, including internal audit and the group compliance and ethics function. Staff from Ernst & Young attend if appropriate to a particular business or activity review. Like BP’s other board committees, SEEAC can access independent advice and counsel if it requires, on an unrestricted basis. The wider board is kept informed of the activities of the committee and any issues that have arisen through the regular update given by the SEEAC chair after each meeting. Training and induction Members of the committee receive ongoing training to assist them in carrying out their duties and an induction programme was provided for Mrs Carroll on joining the committee. To develop a deeper understanding of BP’s business and operations, Sir William Castell undertook a number of private briefings and several site visits on becoming SEEAC chairman. These visits included the Texas City refinery, where progress in implementing the recommendations of the Panel was observed and to the North Sea ETAP platforms where safety, operational and environmental management on an offshore production facility were reviewed. Committee activities in 2008 The chart at the end of this section shows how SEEAC allocated its agenda time in 2008. 73 i i s e h p a r g o b d n a e c n a m r o f r e p d r a o B BP Annual Report and Accounts 2008 BP board performance report Safety and operations The group operations risk committee (GORC) was formed at the end of 2006 and is an executive level committee, chaired by the group chief executive. The GORC made regular reports to SEEAC during the year, including progress on the group-wide implementation of the operating management system (OMS) and BP’s six-point plan, the development and utilization of the process safety index and statistics relating to the group’s safety and operational performance. L Duane Wilson was appointed by the board in 2007 as an independent expert to provide an objective assessment of BP’s progress in implementing the Panel recommendations, aimed at improving process safety performance at BP’s five US refineries. Mr Wilson, who was a member of the Panel, reports to the chairman of SEEAC and is independently funded through the company secretary’s office. Mr Wilson attended six meetings of the committee during 2008 and a private meeting with the committee during the year without the presence of executive management. Topics discussed included a presentation on his detailed work plan and progress updates. In May 2008, Mr Wilson published his first annual report where he assessed BP’s progress against the 10 Panel recommendations. The report noted that while significant progress had been made, areas for improvement still remained. Further information on the report is available on BP’s website. Performance evaluation and forward agenda The committee undertakes an annual review of its performance and process. In 2008, the review involved interviews with each committee member, with the results discussed at the committee’s November meeting. Conclusions from the evaluation included noting the helpful insight gained from site visits and the value to the committee of the knowledge and expertise of the independent expert in respect of safety in the US refineries. The committee also reviewed its forward agenda for 2009. SEEAC plans to meet seven times during 2009. Remuneration committee report Membership The committee consists solely of non-executive directors who are considered by the board to be independent. Members of the remuneration committee during the year were Dr DeAnne Julius (chairman), Erroll Davis, Jr, Sir Tom McKillop and Sir Ian Prosser. The chairman of the board also attends meetings of the committee. Attendance The committee met six times during 2008. Regional reviews and site visits During the year, the committee reviewed reports on Alaska, the BTC pipeline, shipping and TNK-BP. The committee visited BP’s refinery operations in Rotterdam, and coal bed methane operations in Durango, Colorado. In addition, some members visited the BP solar manufacturing facilities in Maryland and the group’s operations in Azerbaijan. Dr D S Julius (chairman) E B Davis, Jr Sir Tom McKillop Sir Ian Prosser P D Sutherland Remuneration committee meetings eligible to attend 6 6 6 6 6 Remuneration committee meetings attended 6 5 6 6 6 Other topics Other topics reviewed by the committee during the year included business continuity and crisis management, environmental requirements for new projects, results from a survey on safety culture in BP’s US refineries and a report from the US ombudsman on concerns raised by employees in Alaska. The committee also received and discussed quarterly reports from the general auditor and the group compliance and ethics officer. SEEAC 2008 Activities Approximate allocation of agenda time* 51% 13% 20% 16% Safety and operations Regional and functional reports Internal audit and compliance and ethics Other topics *Excludes time spent on site visits 74 Role and authority of the committee The committee determines, on behalf of the board, the terms of engagement and remuneration of the group chief executive, the chairman and executive directors and reports on those to shareholders. The committee is independently advised. Further details on the committee’s role, authority and activities during the year are set out in the directors’ remuneration report, which is the subject of a vote by shareholders at the 2009 AGM. The remuneration committee plans to meet five times in 2009. Chairman’s committee report Membership The committee consists of the chairman and all non-executive directors. Attendance The committee met four times during 2008. P D Sutherland (chairman) Sir Ian Prosser A Burgmans C B Carroll Sir William Castell G David E B Davis, Jr D J Flint Dr D S Julius Sir Tom McKillop Dr W E Massey (former member) Chairman’s committee meetings eligible to attend 4 4 4 4 4 2 4 4 4 4 2 Chairman’s committee meetings attended 4 4 4 3 4 2 4 4 4 4 2 BP Annual Report and Accounts 2008 BP board performance report Role and authority of the committee The main tasks and requirements for the committee are set out in the principles and are: • Evaluating the performance and effectiveness of the group chief executive; • Reviewing the structure and effectiveness of the business organization of BP; • Reviewing the systems for senior executive development and determining the succession plan for the group chief executive, executive directors and other senior members of executive management; • Determining any other matter that is appropriate to be considered by all of the non-executive directors; • Opining on any matter referred to it by the chairman of any committee comprised solely of non-executive directors. Committee activities The chairman’s committee considered aspects of a number of strategic issues including the relationship with the company’s partners in TNK-BP. The committee has reviewed with Dr Hayward the short- and long-term challenges facing the group. Dr Hayward has kept the committee briefed on the implementation of the forward agenda and its implications for the evolution of the executive team and succession within the leadership cadre. The committee has also reviewed the steps taken by Dr Hayward to refine the corporate culture and the values within BP. There have been active discussions around the ‘tone from the top’. The committee has reviewed the performance of the chairman and Dr Hayward. The chairman’s committee plans to meet four times in 2009. Nomination committee report Membership The committee’s members nominally consist of the chairman and the chairs of SEEAC, audit and remuneration committees. Members of the nomination committee during the year were Peter Sutherland (chairman), Dr DeAnne Julius, Sir Ian Prosser and Dr Walter Massey. Dr Massey remained a member of the nomination committee during the year after his retirement from the board to assist in the search for a successor to BP’s chairman. Sir William Castell has now joined the committee. Attendance The committee met six times during 2008. P D Sutherland (chairman) Dr D S Julius Dr W E Massey Sir Ian Prosser Nomination committee meetings eligible to attend 6 6 6 6 Nomination committee meetings attended 6 6 6 6 Role and authority of the committee The main tasks and requirements for the committee are set out in the principles and are: • Identifying, evaluating and recommending candidates for appointment or reappointment as directors. • Identifying, evaluating and recommending candidates for appointment as company secretary. • Keeping under review the mix of knowledge, skills and experience of the board to ensure the orderly succession of directors. • Reviewing the outside directorship/commitments of the non- executive directors. Committee activities During 2008 the primary work of the committee has been the continuation of the process to select a successor to Mr Sutherland who is to stand down as chairman. For this purpose, Sir Ian Prosser, as Senior Independent Director, has chaired the committee. The committee has been assisted in this task by Dr Anna Mann of MWM Consulting LLP. The committee has adopted a robust process. Key strategic issues facing BP for the coming years were identified through discussions with individual board members. From these discussions a role description was developed. This formed the basis of a worldwide search from which in excess of 30 candidates emerged. This broad group has been refined and the process is continuing. The board has been regularly briefed on the work of the committee. As part of the chairman selection process, potential candidates for non-executive directors roles have been revealed. The committee will continue actively to keep the skills of the board under review and pursue its refreshment. Combined Code compliance BP complied throughout 2008 with the provisions of the Combined Code Principles of Good Governance and Code of Best Practice, except in the following aspects: A.4.4 Letters of appointment do not set out fixed time commitments since the schedule of board and committee meetings is subject to change according to the exigencies of the business. All directors are expected to demonstrate their commitment to the work of the board on an ongoing basis. This is reviewed by the nomination committee in recommending candidates for annual re-election. B.2.2 The remuneration of the chairman is reviewed by the remuneration committee, which makes a recommendation to the board as a whole for final approval, within the limits set by shareholders. This approach represents a change in policy from previous years where the chairman’s remuneration was set by the board without specific reference to the remuneration committee. Internal control review In discharging its responsibility for the company’s system of internal control the board, through its governance principles, requires the group chief executive to operate with a comprehensive system of controls and internal audit to identify and manage the risks that are material to BP. The governance principles were reviewed and confirmed by the board this year and are consistent with the requirements of the Combined Code including principle C.2. The board has established a process by which the effectiveness of this system of internal control is reviewed as required by provision C.2.1 of the Combined Code. This process enabled the board and its committees to consider the system of internal control being operated for managing significant risks, including social, environmental, safety and ethical risks, throughout the year. The process did not extend to joint ventures or associates. As part of this process, the board and the audit and safety, ethics and environment assurance committees requested, received and reviewed reports from executive management, including management of the business segments and functions, at their regular meetings. In considering the system, the board noted that such a system is designed to manage, rather than eliminate, the risk of failure to achieve business objectives and can only provide reasonable, and not absolute, assurance against material misstatement or loss. During the year, the board through its committees regularly reviewed with the general auditor and executive management processes whereby risks are identified, evaluated and managed. These processes were in place for the year under review, remain current at the date of this report and accord with the guidance on the Combined Code provided by the Financial Reporting Council. In November, the board considered the group’s significant risks within the context of the annual plan presented by the group chief executive. 75 i i s e h p a r g o b d n a e c n a m r o f r e p d r a o B BP Annual Report and Accounts 2008 BP board performance report A joint meeting of the audit and safety, ethics and environment assurance committees in January 2009 reviewed reports from the general auditor as part of the board’s annual review of the system of internal control. The reports described the significant risks identified across the group within the categories of strategic, operational and compliance and control and considered the control environment that responds to such risks. The reports also highlighted the results of audit work conducted during the year and the remedial actions taken by executive management in response to significant failings and weaknesses identified. During the year, these committees engaged with executive management, the general auditor and other monitoring and assurance providers (such as the group compliance and ethics officer and the external auditor) on a regular basis to monitor the management of risks. Significant incidents that occurred and management’s response to them were considered by the appropriate committee and reported to the board. In the board’s view, the information it received was sufficient to enable it to review the effectiveness of the company’s system of internal control in accordance with the ‘Internal Control Revised Guidance for Directors’ in the Combined Code (Turnbull). The board is satisfied that, where significant failings or weaknesses in internal controls were identified during the year, appropriate remedial actions were taken or are being taken. Directors’ interests Current directors A Burgmans C B Carroll Sir William Castell I C Conn G David E B Davis, Jr D J Flint Dr B E Grote Dr A B Hayward A G Inglis Dr D S Julius Sir Tom McKillop Sir Ian Prosser P D Sutherland Directors leaving the board in 2008 Dr D C Allen (retired 31 March 2008) Dr W E Massey (retired 17 April 2008) 10,000 – 82,500 240,789a 9,000b 73,185b 15,000 Change from 31 Dec 2008 At 31 Dec 2008 At 1 Jan 2008 to 18 Feb 2009 – – – 39,148 – – – 47,334 39,148 29,249 – – – – 10,000 – 50,000 229,969a – c 70,602b 15,000 1,214,330d 1,193,137d 482,398 488,459 224,006e 226,175e 15,000 15,000 20,000 20,000 16,301 16,301 30,906 30,906 At resignation/retirement At 1 Jan 2008 597,568f 597,568f 49,722b 49,722b aIncludes 44,158 shares held as ADSs at 31 December 2008 and 41,692 shares held as ADSs at 1 January 2008. bHeld as ADSs. cOn appointment at 11 February 2008. dHeld as ADSs, except for 94 shares held as ordinary shares. eIncludes 34,962 shares held as ADSs. fIncludes 25,368 shares held as ADSs. The above figures indicate and include all the beneficial and non-beneficial interests of each director of the company in shares of the company (or calculated equivalents) that have been disclosed to the company under the Disclosure and Transparency Rules and Companies Acts 1985 or 2006 (as the case may be) as at the applicable dates. The above figures do not include share options granted or interests in performance shares that have yet to vest. Details of these are set out in full in the directors’ remuneration report on pages 83 and 84. Executive directors are also deemed to have an interest in such shares of the company held from time to time by the BP Employee Share Ownership Plan (No.2) to facilitate the operation of the company’s option schemes. No director has any interest in the preference shares or debentures of the company or in the shares or loan stock of any subsidiary company. 76 Directors’ remuneration report 78 Part 1 Summary 80 Part 2 Executive directors’ remuneration 86 Part 3 Non-executive directors’ remuneration t r o p e r n o i t a r e n u m e r ’ s r o t c e r i D BP Annual Report and Accounts 2008 Directors’ remuneration report Part 1 Summary BP executives delivered a strong performance in a turbulent environment during 2008 and restored the group’s operations to a high standard after several years of focused effort. We commend them for a job well done. Key financial targets for the year were exceeded, even after adjusting for the effect of high oil prices during part of the year. Safe and reliable operations remained at the top of the agenda and key safety metrics and milestones were achieved. The year’s results were especially strong in Exploration and Production, with the start-up of the Thunder Horse platform and excellent overall reserves replacement. Key targets were also met in Refining and Marketing and both the Texas City and Whiting refineries were safely restored to full capacity by the end of the year. The annual bonus results, set out in the table opposite, reflect this strong performance and determined leadership. The committee undertook a detailed review of BP’s underlying performance against competitors in determining the 2006-2008 share element vesting under the executive directors’ incentive plan (EDIP). This review included financial measures such as earnings per share, returns on average capital employed, free cash flow, operating measures for both Exploration and Production and Refining and Marketing, and non-financial measures for safety and reputation. All measures were compared across competitors and showed BP firmly in the pack of the other European oil majors. The comparison of total shareholder return (TSR) was less favourable to BP, partly due to exchange rate movements and turbulence in the financial markets. After careful review, the committee concluded that TSR alone was not a fair reflection of underlying performance over the 2006-2008 period. We concluded that it was appropriate to approve the vesting of 15% of the shares in the plan for the current directors. This too is set out in the table opposite. Salaries were increased mid-2008 after our normal review. For 2009, we have agreed with the group chief executive’s view that salaries should be frozen at their current level. There also will be no change in the target and normal maximum levels of bonus for 2009. The group chief executive’s and group chief financial officer’s bonuses will be based 70% on group performance against key metrics in the annual plan, 15% on safety performance and 15% on people. The chief executives of Exploration and Production and Refining and Marketing will have 50% of their bonuses determined on the above basis and 50% on the performance of their respective businesses. The EDIP share element will again provide the long-term component of remuneration for the 2009-2011 period, with some slight modifications. First, reflecting its recent growth, ConocoPhillips will be added to the peer group of comparators (currently ExxonMobil, Shell, Total and Chevron). Second, to provide a more balanced assessment, vesting will be based half on BP’s total shareholder return relative to the peer group and half on underlying performance compared with this same peer group. BP’s performance will be compared on an interpolated basis relative to the performance of the other five. As in previous years, shares will vest at 100%, 70% and 35% for performance equivalent to first, second and third rank respectively and none for fourth or fifth. We remain committed to a remuneration policy and practice that aligns with the long-term interests of shareholders and provides an appropriate reward for talented and committed executives. In the current volatile climate, executive leadership is more important than ever. The committee will continue to use careful and rigorous judgement in assessing performance, and to communicate our assessment in a clear way to shareholders. Dr DeAnne S Julius Chairman, Remuneration Committee 24 February 2009 78 BP Annual Report and Accounts 2008 Directors’ remuneration report Summary of remuneration of executive directors in 2008a Annual remuneration Long-term remuneration Share element of EDIPb 2005-2007 plan (vested in Feb 2008) 2006-2008 plan (vested in Feb 2009) 2008-2010 plan Dr A B Hayward I C Conn Dr B E Grote A G Inglis Salary (thousand) 2008 £998 £670 $1,340 £670 2007 £877 £581 $1,175 £556 2007 Annual performance bonus (thousand) 2008 £1,262 £1,496 £871 $1,551 $1,742 £800 £1,173 £698 Non-cash benefits and other emoluments (thousand) 2008 £15 £45 $8 2007 £14 £45 $10 £188 2007 £2,153 £1,324 $2,736 £212g £1,544 Total (thousand) 2008 £2,509 £1,586 $3,090 £2,055 Directors leaving the board in 2008 Dr D C Allenh £500 £128 £539 £163 £13 £3 £1,052 £294 Amounts shown are in the currency received by executive directors. Annual bonuses are shown in the year they were earned. Actual shares Value vested (thousand) Actualc Valued shares vested (thousand) £336 £336 $603 £279 0 66,136 0 66,136 0 80,231f 0 54,994 Potential maximum performance sharese 845,319 578,376 581,748 578,376 0 34,518 £175 n/a 0 0 0 0 0 aThis information has been subject to audit. bOr equivalent plans in which the individual participated prior to joining the board. cIncludes shares representing reinvested dividends received on the shares that vested at the end of the performance period. dBased on market price on vesting date (£5.08 per share/$45.13 per ADS). eMaximum potential shares that could vest at the end of the three-year period depending on performance. fDr Grote holds shares in the form of ADSs. The above number reflects calculated equivalent in ordinary shares. gThis amount includes costs of London accommodation provided to Mr Inglis. In addition, under a tax equalization arrangement, BP also discharged a US tax liability arising on his participation in the UK pension scheme amounting to $553,175. hDr Allen resigned from the board on 31 March 2008. In addition to the above, he was awarded compensation for loss of office equal to one year’s salary (£510,000). He also received £30,000 in respect of statutory rights and retained his company car. Pensions All executive directors are part of a final salary pension scheme. Accrued annual pension earned as at 31 December 2008 is £561,000 for Dr Hayward, £264,000 for Mr Conn, $868,000 for Dr Grote and £326,000 for Mr Inglis. Historical TSR performance FTSE 100 BP 300 250 200 150 i l g n d o h 0 0 1 £ l a c i t e h t o p y h f o e u a 100 V l Dec 03 Dec 04 Dec 05 Dec 06 Dec 07 Dec 08 This graph shows the growth in value of a hypothetical £100 holding in BP p.l.c. ordinary shares over five years, relative to the FTSE 100 Index (of which the company is a constituent). The values of the hypothetical £100 holdings at the end of the five-year period were £144.36 and £115.05 respectively. Remuneration of non-executive directors in 2008a A Burgmans Sir William Castell C B Carroll G Davidb E B Davis, Jr D J Flint Dr D S Julius Sir Tom McKillop Sir Ian Prosser P D Sutherland Directors leaving the board in 2008 Dr W E Masseyc aThis information has been subject to audit. bAppointed on 11 February 2008. cAlso received a superannuation gratuity of £23,000. £ thousand 2008 90 108 93 100 105 90 110 95 170 600 90 2007 86 87 43 n/a 107 86 106 87 137 517 133 In 2008 the board, after a review, determined that in future it would continue to set the remuneration of the non-executive directors. However, in the case of the chairman this would be based on a recommendation from the remuneration committee and, for the non-executive directors, it would be based on a recommendation from the chairman. This process was adopted in 2008 and recommendations were made. However, the chairman and the non-executive directors informed the board that, in the current economic circumstances, they did not wish to receive any increase in remuneration for 2009. The board accordingly maintained the fees at the 2008 level for 2009 save that no committee membership fee would in future be paid to members of the nomination committee. 79 t r o p e r n o i t a r e n u m e r ’ s r o t c e r i D BP Annual Report and Accounts 2008 Directors’ remuneration report Part 2 Executive directors’ remuneration 2008 remuneration Salary increases As part of our normal cycle, salaries were reviewed mid-year and were increased to reflect market competitiveness and personal performance. Dr Hayward’s salary was increased 10% to £1,045,000, and the other executive directors by 6% to the following: Mr Conn £690,000, Dr Grote $1,380,000 and Mr Inglis £690,000. Annual bonus result Performance measures and targets were set at the beginning of the year based on the annual plan. The target level bonus of 120% of base salary placed 50% on group financial and operating results including earnings before interest, taxes, depreciation and amortization (EBITDA), cash costs, cash flow, return on average capital employed (ROACE) and capital expenditure. The remaining portion was weighted 25% on safety, 25% on people and 20% on individual performance, principally operating results and leadership. Overall performance for 2008 was very strong and is more fully set out in other parts of this report. Financial results exceeded targets for EBITDA, free cash flow and returns on average capital employed, even after adjusting for the high oil prices for part of the year. Cash costs were managed below target, and capital expenditure within expected levels. Operationally, the upstream business had an excellent year, replacing a high proportion of proved reserves, exceeding its production target and successfully starting up the important Thunder Horse development in the Gulf of Mexico. The downstream business successfully and safely completed the full re-commissioning of the Texas City and Whiting refineries and improved overall performance. Alternative Energy exceeded its targets for wind and met its solar sales target. Safe and reliable operations remained at the top of the agenda and performance, both in terms of safety metrics and progress on OMS implementation, was assessed as satisfactory by the safety, ethics and environment assurance committee (SEEAC). On the people front, significant progress was made in reducing complexity and embedding a performance culture throughout the group. Annual bonus results for 2008 reflect this overall strong performance and committed leadership and are set out in the table on page 79. 2006-2008 share element result Performance for the share element is assessed relative to the TSR of the company compared with the other oil majors – ExxonMobil, Shell, Total and Chevron. Recognizing the inherent imperfections in a TSR ranking, the EDIP rules give the committee power to adjust (upwards or downwards) the vesting level derived from the TSR ranking if it considers that the ranking does not fairly reflect BP’s underlying business performance relative to the comparators. This is designed to enable a more comprehensive review of BP’s long-term performance, with the aims of tempering anomalies created by relying solely on a formula-based approach. For the 2006-2008 plan, BP was fifth relative to the other majors in terms of TSR when calculated on a common currency (US dollar) basis as originally anticipated. However, unusually large currency movements at the end of this period were an extraneous influence on this result. On a local currency basis, the TSRs of BP, Shell and Total were tightly bunched together. The committee also reviewed BP’s underlying business performance relative to the comparator companies over the full three-year period. This review included financial measures (earning per share growth, ROACE, free cash flow, net income), operating measures (production, reserves replacement and Refining and Marketing profitability), and non- financial measures (health, safety and environmental and reputation). Again, the performance of the European comparators was quite similar: BP led the group on some measures (notably free cash flow and reserves replacement) but lagged on Refining and Marketing profitability. 80 The committee concluded that the TSR result, by itself, was not a fair reflection of BP’s relative underlying performance over the period. After thorough consideration, the committee determined that 15% of the shares under the 2006-08 award should vest – this being a fair reflection of the overall results achieved and consistent with its approach to the clustering of results, as anticipated in the EDIP rules approved by shareholders in 2005. In accordance with its powers under the EDIP rules, the committee also determined that, as there was clear evidence of a progressive turnaround of performance over the final 18 months of the performance period, individual vesting levels should only occur to the extent that eligible individuals contributed to the turnaround. The resulting final vesting for all eligible participants is shown in the table on page 83. Mr Inglis’s award was made prior to his appointment as an executive director under the MTPP (medium term performance plan) that is the comparable plan to the EDIP. Vesting conditions were the same as for the EDIP for Mr Inglis but, unlike the EDIP, the MTPP does not have a three-year retention period. Lord Browne also held an award under the 2006-08 share element related to long-term leadership measures. These focused on sustaining BP’s financial, strategic and organizational health. Performance relative to the award was assessed by the chairman’s committee and, based on this assessment, no shares were vested. Remuneration policy Our remuneration policy for executive directors aims to ensure there is a clear link between the company’s purpose, its business plans and executive reward, with pay varying with performance. In order to achieve this, the policy is based on these key principles: • The majority of executive remuneration will be linked to the achievement of demanding performance targets, independently set to support the creation of long-term shareholder value. • The structure will reflect a fair system of reward for all the participants. • The remuneration committee will determine the overall amount of each component of remuneration, taking into account the success of BP and the competitive environment. • There will be a quantitative and qualitative assessment of performance, with the remuneration committee making an informed judgement within a framework approved by shareholders. • Remuneration policy and practice will be as transparent as possible. • Executives will develop a significant personal shareholding in order to align their interests with those of shareholders. • Pay and employment conditions elsewhere in the group will be taken into account, especially in setting annual salary increases. • The remuneration policy for executive directors will be reviewed regularly, independently of executive management, and will set the tone for the remuneration of other senior executives. • The remuneration committee will actively seek to understand shareholder preferences. Executive directors’ total remuneration consists of salary, annual bonus, long-term incentives, pensions and other benefits. The remuneration committee reviews this structure regularly to ensure it is achieving its aims. In 2008, over three-quarters of executive directors’ total potential remuneration was performance related. The same will be true for total potential remuneration in 2009. BP Annual Report and Accounts 2008 Directors’ remuneration report Salary The remuneration committee normally reviews salaries annually, taking into account other large Europe-based global companies and companies in the US oil and gas sector. These groups are each defined and analyzed by the committee’s independent remuneration advisers. For 2009, the committee has agreed with the group chief executive’s view that salaries should be frozen at their current level. Policy for performance share awards The remuneration committee can award shares to executive directors that will only vest to the extent that demanding performance conditions are satisfied at the end of a three-year period. The maximum number of these performance shares that can be awarded to an executive director in any year is at the discretion of the remuneration committee, but will not normally exceed 5.5 times base salary. Annual bonus All executive directors are eligible to take part in an annual performance- based bonus scheme. The remuneration committee sets bonus targets and levels of eligibility each year. The target level for 2009 is 120% of base salary. In normal circumstances, the maximum payment for substantially exceeding performance targets will continue to be 150% of base salary. The group chief executive’s and group chief financial officer’s bonus will be determined on group results as follows: • 70% on group performance compared with key metrics and milestones from the annual plan including: • Cash costs and organic capex. • Underlying replacement cost profit and operating cash flow. • Production and reserves replacement. • Refining availability and earnings/barrel. • Installed wind capacity. • 15% on safety performance, including satisfactory and improving key metrics as well as progress on OMS implementation. • 15% on people, including behaviour, culture and values. For the chief executive of Exploration and Production, and the chief executive of Refining and Marketing, 50% of their bonus will be based on the above group results and 50% on the results of their respective businesses as measured by key metrics and milestones set out in the annual plan. For Exploration and Production, these include production costs and reserves replacement as well as safety and new opportunities. For Refining and Marketing, they include refining availability, earnings and cash costs, as well as safety and work simplification. The remuneration committee will also review carefully the underlying performance of the group in light of company business plans and will look at competitors’ results, analysts’ reports and the views of the chairmen of other BP board committees when assessing results. In exceptional circumstances, the remuneration committee can decide to award bonuses moderately above the maximum level. The committee can also decide to reduce bonuses where this is warranted and, in exceptional circumstances, bonuses could be reduced to zero. We have a duty to shareholders to use our discretion in a reasonable and informed manner, acting to promote the success of the company, and also to be accountable and transparent in our decisions. Any significant exercise of discretion will be explained in the subsequent directors’ remuneration report. Long-term incentives Each executive director participates in the EDIP. It has three elements: shares, share options and cash. The remuneration committee does not intend to use either the share option or cash elements in 2009, nor to grant any retention awards which are also permitted under the EDIP. We intend that executive directors will continue to receive performance shares under the EDIP, barring unforeseen circumstances, until it expires or is renewed in 2010. In exceptional circumstances, the committee also has an overriding discretion to reduce the number of shares that vest or to decide that no shares vest. The compulsory retention period will also be decided by the committee and will not normally be less than three years. Together with the performance period, this gives executive directors a six-year incentive structure, as shown in the timeline below, which is designed to ensure their interests are aligned with those of shareholders. Timeline for 2009-2011 EDIP share element Performance period Retention period Award 2009 Vesting Release 2010 2011 2012 2013 2014 2015 Where shares vest, the executive director will receive additional shares representing the value of the reinvested dividends. The committee’s policy continues to be that each executive director build a significant personal shareholding, with a target of shares equivalent in value to five times his or her base salary within a reasonable timeframe from appointment as an executive director. This policy is reflected in the terms of the performance shares under the EDIP, as shares vested will normally only be released at the end of the three-year retention period, described above, if these minimum shareholding guidelines are met. Performance conditions Performance conditions for the 2009-11 share element will be somewhat modified from previous years. First, the peer group of oil majors against which we compare will be increased to include ConocoPhillips as well as ExxonMobil, Shell, Total and Chevron as previously. This change reflects ConocoPhillips’ significant growth over the last few years, providing it with similar scale and global reach to the other oil majors. Second, vesting of the shares will be based 50% on total shareholder return (TSR) versus the competitor group and 50% on a balanced scorecard of underlying performance versus the same competitors. The underlying performance will be assessed on three measures reflecting key priorities in BP’s strategy – in Exploration and Production, hydrocarbon production growth, in Refining and Marketing, improvement in earnings per barrel, and group increase in underlying net income. Both Exploration and Production production growth and Refining and Marketing earnings improvement are key strategic objectives for the group and this inclusion aligns key measures with both executive director priorities as well as key drivers of value for shareholders. Group increase in underlying net income acts as a holistic measure of success reflecting revenues, costs and complexity as well as safe and reliable operations. 81 t r o p e r n o i t a r e n u m e r ’ s r o t c e r i D BP Annual Report and Accounts 2008 Directors’ remuneration report All the above measures will be compared with the five other oil majors to determine the overall vesting result. The methodology used will rank each of the five other majors on each of the measures. BP’s performance will then be compared on an interpolated basis relative to the performance of the other five. For performance between second and third or first and second, the result will be interpolated based on BP’s performance relative to the company ranked directly above and below it. As in previous years, performance shares will vest at 100%, 70% and 35% for performance equivalent to first, second and third rank respectively and none for fourth or fifth place. The three underlying measures will be averaged to form the balanced scorecard component. The committee considers that this combination of measures provides a good balance of external as well as internal metrics reflecting both shareholder value and operating priorities. As in previous years, the committee will exercise its discretion, in a reasonable and informed manner to adjust vesting levels upwards or downwards if it concludes the above quantitative approach does not reflect the true underlying health and performance of BP’s business relative to its peers. It will explain any adjustments in the next directors’ remuneration report following the vesting, in line with its commitment to transparency. Pensions Executive directors are eligible to participate in the appropriate pension schemes applying in their home countries. Additional details are given in the table below. UK directors UK directors are members of the regular BP Pension Scheme. The core benefits under this scheme are non-contributory. They include a pension accrual of 1/60th of basic salary for each year of service, up to a maximum of two-thirds of final basic salary and a dependant’s benefit of two-thirds of the member’s pension. The scheme pension is not integrated with state pension benefits. The rules of the BP Pension Scheme were amended in 2006 such that the normal retirement age is 65. Prior to 1 December 2006, scheme members could retire on or after age 60 without reduction. Special early retirement terms apply to pre-1 December 2006 service for members with long service as at 1 December 2006. Pension benefits in excess of the individual lifetime allowance set by legislation are paid via an unapproved, unfunded pension arrangement provided directly by the company. Although Mr Inglis is, like other UK directors, a member of the BP Pension Scheme, he is currently based in Houston, US. His participation in the BP Pension Scheme gives rise to a US tax liability. During 2008, the committee approved the discharge of this US tax liability under a tax equalization arrangement in respect of the period since Mr Inglis became a director in February 2007, amounting to $553,175. US directors Dr Grote participates in the US BP Retirement Accumulation Plan (US plan), which features a cash balance formula. Pension benefits are provided through a combination of tax-qualified and non-qualified benefit restoration plans, consistent with US tax regulations as applicable. The Supplemental Executive Retirement Benefit (supplemental plan) is a non-qualified top-up arrangement that became effective on 1 January 2002 for US employees above a specified salary level. The benefit formula is 1.3% of final average earnings, which comprise base salary and bonus in accordance with standard US practice (and as specified under the qualified arrangement), multiplied by years of service. There is an offset for benefits payable under all other BP qualified and non-qualified pension arrangements. This benefit is unfunded and therefore paid from corporate assets. Dr Grote is eligible to participate under the supplemental plan. His pension accrual for 2008, shown in the table below, includes the total amount that could become payable under all plans. Other benefits Executive directors are eligible to participate in regular employee benefit plans and in all-employee share saving schemes and savings plans applying in their home countries. Benefits in kind are not pensionable. Expatriates may receive a resettlement allowance for a limited period. As Mr Inglis is currently based in Houston, US, BP provides accommodation in London. Pensionsa Dr A B Hayward (UK) I C Conn (UK) Dr B E Grote (US) A G Inglis (UK) Directors leaving the board in 2008 Dr D C Allen (UK)d Service at 31 Dec 2008 27 years 23 years 29 years 28 years Accrued pension entitlement at 31 Dec 2008 £561 £264 $868 £326 Additional pension earned during the year ended 31 Dec 2008b £72 £26 $45 £30 Transfer value of accrued benefitc at 31 Dec 2007 (A) £7,986 £3,375 $7,901 £4,613 Transfer value of accrued benefitc at 31 Dec 2008 (B) £8,045 £3,161 $11,220 £4,399 Amount of B-A less contributions made by the director in 2008 £9 (£214) $2,860 (£214) thousand n/a £260 £12 £4,256 £5,580 £1,324 aThis information has been subject to audit. bAdditional pension earned during the year includes an inflation increase of 4.0% for UK directors and 5.8% for US directors. cTransfer values have been calculated in accordance with version 8.1 of guidance note GN11 issued by the actuarial profession. dDr D C Allen retired on 31 March 2008 and commuted part of his pension for a lump sum. The figures above make no allowance for the payment of this lump sum. If allowance is made (in line with the strict requirements of the regulations), and the transfer value at the end of the year is based on the pension in payment at that time, then the transfer value at 31 December 2008 would be £4.55 million and the change in value over the year would be £0.29 million. 82 BP Annual Report and Accounts 2008 Directors’ remuneration report Share element of EDIPa Dr A B Hayward I C Conn Dr B E Grotee A G Inglis Date of award of performance Performance shares period 28 Apr 2005 2005-2007 16 Feb 2006 2006-2008 06 Mar 2007 2007-2009 13 Feb 2008 2008-2010 28 Apr 2005 2005-2007 16 Feb 2006 2006-2008 06 Mar 2007 2007-2009 13 Feb 2008 2008-2010 13 Feb 2008 2008-2011d 13 Feb 2008 2008-2013d 28 Apr 2005 2005-2007 16 Feb 2006 2006-2008 06 Mar 2007 2007-2009 13 Feb 2008 2008-2010 2005-2007 8 Mar 2005 2006-2008 27 Mar 2006 06 Mar 2007 2007-2009 13 Feb 2008 2008-2010 13 Feb 2008 2008-2011d 13 Feb 2008 2008-2013d Directors leaving the board in 2008 Dr D C Allen Former directors Lord Browne J A Manzoni 2005-2007 2006-2008 2007-2009 28 Apr 2005 16 Feb 2006 06 Mar 2007 2005-2007 2006-2008 2005-2007 2006-2008 28 Apr 2005 16 Feb 2006 28 Apr 2005 16 Feb 2006 Market price of each share at date of award of performance shares £ 5.33 6.54 5.12 5.61 5.33 6.54 5.12 5.61 5.61 5.61 5.33 6.54 5.12 5.61 5.70 6.59 5.12 5.61 5.61 5.61 5.33 6.54 5.12 5.33 6.54 5.33 6.54 Share element interests Potential maximum performance sharesb Interests vested in 2008 and 2009 At 1 Jan 2008 436,623 383,200 706,311 – 415,832 383,200 456,748 – – – 501,782 470,432 491,640 – 209,000 325,750 400,243 – – – 436,623 383,200 456,748 2,006,767 1,761,249 436,623 383,200 Awarded 2008 – – – 845,319 – – – 578,376 133,452 133,452 – – – 581,748 – – – 578,376 133,452 133,452 At 31 Dec 2008 – 383,200 706,311 845,319 – 383,200 456,748 578,376 133,452 133,452 – 470,432 491,640 581,748 – 325,750 400,243 578,376 133,452 133,452 – – – – 383,200 456,748 – – – 1,761,249 – – 383,200 – Number of ordinary shares vestedc 0 66,136 – – 0 66,136 – – – – 0 80,231 – – 0 54,994 – – – – 0 34,518 – 90,232 0 0 0 Vesting date n/a 6 Feb 2009 – – n/a 6 Feb 2009 – – – – n/a 6 Feb 2009 – – n/a 6 Feb 2009 – – – – n/a 6 Feb 2009 – 6 Feb 2008 n/a n/a n/a Market price of each share at vesting £ n/a 5.08 – – n/a 5.08 – – – – n/a 5.08 – – n/a 5.08 – – – – n/a 5.08 – 5.45 n/a n/a n/a aThis information has been subject to audit. Includes equivalent plans in which the individual participated prior to joining the board. bBP’s performance is measured against the oil sector. For the 2005-2007 and subsequent awards, the performance condition is TSR measured against ExxonMobil, Shell, Total and Chevron. Each performance period ends on 31 December of the third year. cRepresents awards of shares made at the end of the relevant performance period based on performance achieved under rules of the plan and includes reinvested dividends on the shares awarded. dRestricted award under share element of EDIP. As reported in the 2007 directors’ remuneration report in February 2008, the committee awarded both Mr Inglis and Mr Conn restricted shares, as set out above. These one-off awards will vest on the third and fifth anniversary of the award, dependent on the remuneration committee being satisfied as to their personal performance at the date of vesting. Any unvested tranche will lapse in the event of cessation of employment with the company. eDr Grote receives awards in the form of ADSs. The above numbers reflect calculated equivalents in ordinary shares. t r o p e r n o i t a r e n u m e r ’ s r o t c e r i D 83 BP Annual Report and Accounts 2008 Directors’ remuneration report Share optionsa Dr A B Hayward I C Conn Dr B E Grotec A G Inglis Directors leaving the board in 2008 Dr D C Allen Option type SAYE EXEC EXEC EXEC EDIP EDIP SAYE SAYE SAYE SAYE EXEC EXEC BPA BPA EDIP EDIP EDIP EDIP SAYE EXEC EXEC EXEC EXEC EXEC EXEC EXEC EDIP EDIP At 1 Jan 2008 3,220 34,000 77,400 160,000 220,000 275,000 1,456 1,186 1,498 – 72,250 130,000 10,404 12,600 40,182 58,173 58,173 58,333 4,550 72,250 119,000 119,000 100,500 37,000 87,950 175,000 220,000 275,000 Granted – – – – – – – – – 617 – – – – – – – – – – – – – – – – – – Exercised – – – – – – 1,456 – – – – – – – 40,182 – – – – – – – – At 31 Dec 2008 3,220 34,000 77,400 160,000 220,000 275,000 – 1,186 1,498 617 72,250 130,000 10,404 12,600 – 58,173 58,173 58,333 4,550 72,250 119,000 119,000 100,500 Market price at date of exercise Date from which first exercisable Option Expiry date price 01 Sep 2011 29 Feb 2012 £5.00 15 May 2003 15 May 2010 £5.99 23 Feb 2004 23 Feb 2011 £5.67 18 Feb 2005 18 Feb 2012 £5.72 17 Feb 2004 17 Feb 2010 £3.88 25 Feb 2005 25 Feb 2011 £4.22 £4.72b 01 Sep 2008 28 Feb 2009 £3.50 01 Sep 2009 28 Feb 2010 £3.86 01 Sep 2010 28 Feb 2011 £4.41 01 Sep 2011 01 Feb 2012 £4.87 23 Feb 2004 23 Feb 2011 £5.67 18 Feb 2005 18 Feb 2012 £5.72 15 Mar 2000 14 Mar 2009 $53.90 $48.94 28 Mar 2001 27 Mar 2010 $49.65 $65.58-$66.50 19 Feb 2002 19 Feb 2008 18 Feb 2003 18 Feb 2009 $48.82 17 Feb 2004 17 Feb 2010 $37.76 25 Feb 2005 25 Feb 2011 $48.53 £3.50d 01 Sep 2008 28 Feb 2009 23 Feb 2004 22 Feb 2011 £5.67 18 Feb 2005 17 Feb 2012 £5.72 17 Feb 2006 16 Feb 2013 £3.88 25 Feb 2007 24 Feb 2014 £4.22 – – – – – 37,000e 87,950e 175,000e 220,000e 275,000e £5.99 £5.67 £5.72 £3.88 £4.22 15 May 2003 15 May 2010 23 Feb 2004 23 Feb 2011 18 Feb 2005 18 Feb 2012 17 Feb 2004 17 Feb 2010 25 Feb 2005 25 Feb 2011 The closing market prices of an ordinary share and of an ADS on 31 December 2008 were £5.26 and $46.74 respectively. During 2008, the highest market prices were £6.50 and $76.12 respectively and the lowest market prices were £3.76 and $39.56 respectively. BPA = BP Amoco share option plan, which applied to US executive directors prior to the adoption of the EDIP. EDIP = Executive Directors’ Incentive Plan adopted by shareholders in April 2005 as described on page 80. EXEC = Executive Share Option Scheme. These options were granted to the relevant individuals prior to their appointments as directors and are not subject to performance conditions. SAYE = Save As You Earn employee share scheme. aThis information has been subject to audit. bClosing market price for information. Shares were retained when exercised. cNumbers shown are ADSs under option. One ADS is equivalent to six ordinary shares. dOptions exercised on 21 January 2009 and the shares were retained by Mr Inglis. Closing market price for information on that date was £4.86. eOn leaving the board on 31 March 2008. 84 BP Annual Report and Accounts 2008 Directors’ remuneration report Service contracts Director Dr A B Hayward I C Conn Dr B E Grote A G Inglis Contract date Salary as at 31 Dec 2008 29 Jan 2003 £1,045,000 22 Jul 2004 £690,000 7 Aug 2000 $1,380,000 1 Feb 2007 £690,000 Executive director Dr A B Hayward Service contracts have a notice period of one year and may be terminated by the company at any time with immediate effect on payment in lieu of notice equivalent to one year’s salary or the amount of salary that would have been paid if the contract had been terminated on the expiry of the remainder of the notice period. The service contracts are expressed to expire at a normal retirement age of 60 (subject to age discrimination). Dr Grote’s contract is with BP Exploration (Alaska) Inc. He is seconded to BP p.l.c. under a secondment agreement of 7 August 2000, which expires on 31 March 2010. The secondment can be terminated by one month’s notice by either party and terminates automatically on the termination of Dr Grote’s service contract. There are no other provisions for compensation payable on early termination of the above contracts. In the event of the early termination of any of the contracts by the company, other than for cause (or under a specific termination payment provision), the relevant director’s then- current salary and benefits would be taken into account in calculating any liability of the company. Since January 2003, new service contracts include a provision to allow for severance payments to be phased, when appropriate. The committee will also consider mitigation to reduce compensation to a departing director, when appropriate to do so. Director leaving the board in 2008 Dr Allen left the company at the end of March 2008. He was entitled to one year’s salary (£510,000) as compensation in accordance with his contractual entitlement, as well as a pro rata bonus for 2008 and continued full participation in the 2006-08 and 2007-09 share elements, according to the normal rules of the plan. Executive directors – external appointments The board encourages executive directors to broaden their knowledge and experience by taking up appointments outside the company. Each executive director is permitted to accept one non-executive appointment, from which they may retain any fee. External appointments are subject to agreement by the chairman and reported to the board. Any external appointment must not conflict with a director’s duties and commitments to BP. During the year, the fees received by executive directors for external appointments were as follows: I C Conn Dr B E Grote A G Inglis Appointee company Tata Steel Additional postion held at appointee company Senior Independent Director Senior Independent Director Unilever Audit committee member Rolls-Royce BAE Systems Chair of Corporate Responsibility Committee Total fees £83,000 £65,000 Unilever PLC £33,500 Unilever NV Z48,625 £86,754 Remuneration committee All the members of the committee are independent non-executive directors. Throughout the year, Dr Julius (chairman), Mr Davis, Sir Tom McKillop and Sir Ian Prosser were members. The group chief executive was consulted on matters relating to the other executive directors who report to him and on matters relating to the performance of the company; neither he nor the chairman were present when matters affecting their own remuneration were discussed. Tasks The remuneration committee’s tasks are: • To determine, on behalf of the board, the terms of engagement and remuneration of the group chief executive and the executive directors and to report on these to the shareholders. • To determine, on behalf of the board, matters of policy over which the company has authority regarding the establishment or operation of the company’s pension scheme of which the executive directors are members. • To nominate, on behalf of the board, any trustees (or directors of corporate trustees) of the scheme. • To review the policies being applied by the group chief executive in remunerating senior executives other than executive directors to ensure alignment and proportionality. • To recommend to the board the quantum and structure of remuneration for the chairman. t r o p e r n o i t a r e n u m e r ’ s r o t c e r i D 85 BP Annual Report and Accounts 2008 Directors’ remuneration report Constitution and operation Each member of the remuneration committee is subject to annual re-election as a director of the company. The board considers all committee members to be independent (see page 70). They have no personal financial interest, other than as shareholders, in the committee’s decisions. The committee met six times in the period under review. Mr Sutherland, as chairman of the board, attended all the committee meetings. The committee is accountable to shareholders through its annual report on executive directors’ remuneration. It will consider the outcome of the vote at the AGM on the directors’ remuneration report and take into account the views of shareholders in its future decisions. The committee values its dialogue with major shareholders on remuneration matters. Advice Advice is provided to the committee by the company secretary’s office, which is independent of executive management and reports to the chairman of the board. Mr Aronson, an independent consultant, is the committee’s secretary and independent adviser. Advice was also received from Mr Jackson, the company secretary. The committee also appoints external advisers to provide specialist advice and services on particular remuneration matters. The independence of the advice is subject to annual review. In 2008, the committee continued to engage Towers Perrin as its principal external adviser. Towers Perrin also provided limited ad hoc remuneration and benefits advice to parts of the group, principally changes in employee share plans and some market information on pay structures. Freshfields Bruckhaus Deringer LLP provided legal advice on specific matters to the committee, as well as providing some legal advice to the group. Ernst & Young reviewed the calculations on the financial-based targets that form the basis of the performance-related pay for executive directors, that is, the annual bonus and share element awards described on page 79, to ensure they met an independent, objective standard. They also provided audit, audit-related and taxation services for the group. Part 3 Non-executive directors’ remuneration Policy Remuneration of the chairman and the non-executive directors continues to be set by the board. The process by which the board determines that remuneration was reviewed during the year with the result that: • The quantum and structure of the chairman’s remuneration would be reviewed by the remuneration committee. The remuneration committee would then make a recommendation to the board but the chairman would not vote on his own remuneration; and • The quantum and structure of non-executive director remuneration would be reviewed by the chairman, with support and analysis provided by the company secretary. The chairman would then make a recommendation to the board but non-executive directors would not vote on their own remuneration. The above changes came into effect for the 2008 review of remuneration. The other elements of BP’s non-executive director remuneration policy remain unchanged: • Within the limits set by the shareholders from time to time, remuneration should be sufficient to attract, motivate and retain world-class non-executive talent. • Remuneration of non-executive directors is set by the board and should be proportional to their contribution towards the interests of the company. • Remuneration practice should be consistent with recognized best- practice standards for non-executive directors’ remuneration. • Remuneration should be in the form of cash fees, payable monthly. • Non-executive directors should not receive share options from the company. • Non-executive directors should be encouraged to establish a holding in BP shares broadly related to one year’s base fee, to be held directly or indirectly in a manner compatible with their personal investment activities, and any applicable legal and regulatory requirements. Fee structure The table below shows the current fee structure for non-executive directors: Chairmana Deputy chairmanb Board member Audit committee and SEEAC chairmanship feesc Remuneration committee chairmanship feec Transatlantic attendance allowance Committee membership feed £ thousand Fee level 600 120 75 30 20 5 5 a The chairman remains ineligible for committee chairmanship and membership fees or transatlantic attendance allowance, but has the use of a fully maintained office for company business, a chauffeured car and security advice. b The role of deputy chairman is combined with that of senior independent director. The deputy chairman is still eligible for committee chairmanship fees and transatlantic attendance allowance plus any committee membership fees. c Committee chairmen do not receive an additional membership fee for the committee they chair. d For members of the audit, SEEAC and remuneration committees. 86 BP Annual Report and Accounts 2008 Directors’ remuneration report Remuneration of non-executive directors in 2008a A Burgmans Sir William Castell C B Carroll G Davidb E B Davis, Jr D J Flint Dr D S Julius Sir Tom McKillop Sir Ian Prosser P D Sutherland Director leaving the board in 2008 Dr W E Masseyc aThis information has been subject to audit. bAppointed on 11 February 2008. cAlso received a superannuation gratuity of £23,000. £ thousand 2008 90 108 93 100 105 90 110 95 170 600 90 2007 86 87 43 n/a 107 86 106 87 137 517 133 No share or share option awards were made to any non-executive director in respect of service on the board during 2008. Non-executive directors have letters of appointment, which recognize that, subject to the Articles of Association, their service is at the discretion of shareholders. All directors stand for re-election at each AGM. Review of chairman and non-executive director remuneration The new process for the determination of non-executive remuneration, as described earlier, was operated during the year and recommendations were made. However, the chairman and the non-executive directors informed the board that, in the current economic circumstances, they did not wish to receive any increase in remuneration for the coming year 2009. The board, therefore, decided after review to maintain fees for 2009 at the 2008 level set out in the fee structure table, save that the committee membership fee would no longer be paid to members of the nomination committee. Superannuation gratuities Until 2002, BP maintained a long-standing practice whereby non- executive directors who retired from the board after at least six years’ service were eligible for consideration for a superannuation gratuity. The board was, and continues to be, authorized to make such payments under the company’s Articles of Association and the amount of the payment is determined at the board’s discretion, having regard to the director’s period of service as a director and other relevant factors. In 2002, the board revised its policy with respect to superannuation gratuities so that: • Non-executive directors appointed to the board after 1 July 2002 would not be eligible for consideration for such a payment. • While non-executive directors in service at 1 July 2002 would remain eligible for consideration for a payment, service after that date would not be taken into account by the board in considering the amount of any such payment. The board made a superannuation gratuity of £23,000 during the year to Dr Walter Massey, who retired in April 2008. This payment was in line with the policy arrangements agreed in 2002 and outlined above. Non-executive directors of Amoco Corporation Non-executive directors who were formerly non-executive directors of Amoco Corporation have residual entitlements under the Amoco Non- Employee Directors’ Restricted Stock Plan. Directors were allocated restricted stock in remuneration for their service on the board of Amoco Corporation prior to its merger with BP in 1998. On merger, interests in Amoco shares in the plan were converted into interests in BP ADSs. The restricted stock will vest on the retirement of the non-executive director at the age of 70 (or earlier at the discretion of the board). Since the merger, no further entitlements have accrued to any director under the plan. The residual interests, as interests in a long-term incentive scheme, are set out in the table below, in accordance with the Directors’ Remuneration Report Regulations 2002. E B Davis, Jr Interest in BP ADSs at 1 Jan 2008 and 31 Dec 2008a 4,490 Date on which director reaches age 70b 5 Aug 2014 Director leaving the board in 2008 Dr W E Masseyc 3,346 5 April 2008 aNo awards were granted and no awards lapsed during the year. The awards were granted over Amoco stock prior to the merger but their notional weighted average market value at the date of grant (applying the subsequent merger ratio of 0.66167 of a BP ADS for every Amoco share) was $27.87 per BP ADS. bFor the purposes of the regulations, the date on which the director retires from the board at or after the age of 70 is the end of the qualifying period. If the director retires prior to this date, the board may waive the restrictions. cDr Massey retired from the board on 17 April 2008. He had received awards of Amoco shares under the plan between 22 June 1993 and 28 April 1998 prior to the merger. These interests had been converted into BP ADSs at the time of the merger. In accordance with the terms of the plan, the board exercised its discretion over this award on 16 May 2008 and the shares vested on that date (when the BP ADS market price was $74.57) without payment by him. Past directors Mr Miles (who was a non-executive director of BP until April 2006) was appointed as a director and non-executive chairman of BP Pension Trustees Limited in October 2006 for a term of three years. During 2008, he received £150,000 for this role. Dr Walter Massey (who retired as a non-executive director of BP in April 2008) remained a member of the nomination committee during the year to assist in the search for a successor to BP’s chairman. Dr Massey received a total fee of £15,000 for this role in 2008. Dr Massey was also appointed to the BP America board in April 2008 for a term of two years. During 2008, he received US$93,500 for this role. This directors’ remuneration report was approved by the board and signed on its behalf by David J Jackson, company secretary, on 24 February 2009. t r o p e r n o i t a r e n u m e r ’ s r o t c e r i D 87 88 Additional information for shareholders 90 Share ownership 91 Major shareholders and related party transactions 92 Dividends 92 Legal proceedings 93 The offer and listing 95 Memorandum and Articles of Association 96 Exchange controls 96 Taxation 98 Documents on display 99 Purchases of equity securities by the issuer and affiliated purchasers 100 Called-up share capital 100 Annual general meeting 100 Administration l s r e d o h e r a h s r o f n o i t a m r o f n i l a n o i t i d d A BP Annual Report and Accounts 2008 Additional information for shareholders Share ownership Directors and senior management As at 18 February 2009, the following directors of BP p.l.c. held interests in BP ordinary shares of 25 cents each or their calculated equivalent as set out below: I C Conn Dr B E Grote Dr A B Hayward A G Inglis A Burgmans C B Carroll Sir William Castell G David E B Davis, Jr D J Flint Dr D S Julius Sir Tom McKillop Sir Ian Prosser P D Sutherland 279,937 1,261,664 527,607 255,424 10,000 – 82,500 9,000 73,185 15,000 15,000 20,000 16,301 30,906 1,815,940a 266,904c – 2,066,316a – 2,734,170a 1,759,435a b 266,904c – – – – – – – – – – – – – – – – – – – – a Performance shares awarded under the BP Executive Directors Incentive Plan. These figures represent the maximum possible vesting levels. The actual number of shares/ADSs that vest will depend on the extent to which performance conditions have been satisfied over a three-year period. bAlso includes 325,750 performance shares awarded under the BP Medium Term Performance Plan, which represents the maximum possible vesting level. The actual number of shares that vest will depend on the extent to which performance conditions have been satisfied over a three-year period. c Restricted share award under the BP Executive Directors Incentive Plan. These shares will vest in two equal tranches after three and five years, subject to the directors’ continued service and satisfactory performance. As at 18 February 2009, the following directors of BP p.l.c. held options under the BP group share option schemes for ordinary shares or their calculated equivalent as set out below: I C Conn Dr B E Grote Dr A B Hayward A G Inglis 205,551 1,186,098 769,620 410,750 There are no directors or members of senior management who own more than 1% of the ordinary shares outstanding. At 18 February 2009, all directors and senior management as a group held interests in 4,308,712 ordinary shares or their calculated equivalent, 11,163,994 performance shares or their calculated equivalent and 3,281,964 options for ordinary shares or their calculated equivalent under the BP group share options schemes. Additional details regarding the options granted and performance shares awarded can be found in the directors’ remuneration report on pages 83 and 84. Employee share plans The following table shows employee share options granted. Employee share options granted during the yeara 2008 8,063 options thousands 2007 6,004 2006 53,977 aFor the options outstanding at 31 December 2008, the exercise price ranges and weighted average remaining contractual lives are shown in Financial statements – Note 41 on page 168. BP offers most of its employees the opportunity to acquire a shareholding in the company through savings-related and/or matching share plan arrangements. BP also uses long-term performance plans (see Financial statements – Note 41 on page 168) and the granting of share options as elements of remuneration for executive directors and senior employees. Shares acquired through the company’s employee share plans rank pari passu with shares in issue and have no special rights, save as described below. For legal and practical reasons, the rules of these plans set out the consequences of a change of control of the company, and generally provide for options and conditional awards to vest on an accelerated basis. Savings and matching plans BP ShareSave Plan This is a savings-related share option plan, under which employees save on a monthly basis over a three-year or five-year period towards the purchase of shares at a fixed price determined when the option is granted. This price is usually set at a 20% discount to the market price at the time of grant. The option must be exercised within six months of maturity of the savings contract otherwise it lapses. The plan is run in the UK and options are granted annually, usually in June. Participants leaving for a qualifying reason will have six months in which to use their savings to exercise their options on a pro rated basis. 90 BP Annual Report and Accounts 2008 Additional information for shareholders BP ShareMatch plans These are matching share plans, under which BP matches employees’ own contributions of shares up to a predetermined limit. The plans are run in the UK and in more than 70 other countries. The UK plan is run on a monthly basis with shares being held in trust for five years before they can be released free of any income tax and national insurance liability. In other countries, the plan is run on an annual basis, with shares being held in trust for three years. The plan is operated on a cash basis in those countries where there are regulatory restrictions preventing the holding of BP shares. When the employee leaves BP, all shares must be removed from trust and units under the plan operated on a cash basis must be encashed. Once shares have been awarded to an employee under the plan, the employee may instruct the trustee how to vote their shares. Local plans In some countries, BP provides local scheme benefits, the rules and qualifications for which vary according to local circumstances. The above share plans are indicated as being equity-settled. In certain countries, however, it is not possible to award shares to employees owing to local legislation. In these instances, the award will be settled in cash, calculated as the cash equivalent of the value to the employee of an equity-settled plan. Cash plans Cash-settled share-based payments/Stock Appreciation Rights (SARs) These are cash-settled share-based payments available to certain employees that require the group to pay the intrinsic value of the cash option/SAR/restricted shares to the employee at the date of exercise/maturity. Employee share ownership plans (ESOPs) ESOPs have been established to acquire BP shares to satisfy any awards made to participants under the Executive Directors’ Incentive Plan, the Medium-Term Performance Plan, the Long-Term Performance Plan, the Deferred Annual Bonus Plan and the BP ShareMatch plans. The ESOPs have waived their rights to dividends on shares held for future awards and are funded by the group. Pending vesting, the ESOPs have independent trustees that have the discretion in relation to the voting of such shares. Until such time as the company’s own shares held by the ESOP trusts vest unconditionally in employees, the amount paid for those shares is deducted in arriving at shareholders’ equity (see Financial statements – Note 40 on page 166). Assets and liabilities of the ESOPs are recognized as assets and liabilities of the group. At 31 December 2008, the ESOPs held 29,051,082 shares (2007 6,448,838 shares and 2006 12,795,887 shares) for potential future awards, which had a market value of $220 million (2007 $79 million and 2006 $142 million). Pursuant to the various BP group share option schemes, the following options for ordinary shares of the company were outstanding at 18 February 2009: Options outstanding (shares) 323,378,846 Expiry dates of options 2009-2016 Exercise price per share 5.7050-11.9210 More details on share options appear in Financial statements – Note 41 on page 168. Major shareholders and related party transactions Register of members holding BP ordinary shares as at 31 December 2008 Range of holdings 1-200 201-1,000 1,001-10,000 10,001-100,000 100,001-1,000,000 Over 1,000,000a Totals Number of ordinary shareholders 57,617 120,017 124,970 11,837 1,089 790 316,320 Percentage of Percentage of total ordinary total ordinary share capital shareholders 0.01 18.22 0.31 37.94 1.83 39.51 1.17 3.74 1.95 0.34 94.73 0.25 100.00 100.00 aIncludes JP Morgan Chase Bank holding 27.48% of the total ordinary issued share capital (excluding shares held in treasury) as the approved depositary for ADSs, a breakdown of which is shown in the table below. Register of holders of American depositary shares (ADSs) as at 31 December 2008a Range of holdings 1-200 201-1,000 1,001-10,000 10,001-100,000 100,001-1,000,000 Over 1,000,000b Totals Number of ADS holders 73,569 38,781 22,656 1,505 23 2 136,536 Percentage of total ADS Percentage of total ADSs 0.50 2.16 7.12 3.04 0.47 86.71 100.00 holders 53.88 28.40 16.59 1.10 0.02 0.01 100.00 aOne ADS represents six 25 cent ordinary shares. bOne of the holders of ADSs represents some 818,000 underlying shareholders. As at 31 December 2008, there were also 1,622 preference shareholders. Preference shareholders represented 0.44% and ordinary shareholders represented 99.56% of the total issued nominal share capital of the company as at that date. Substantial shareholdings The disclosure of certain major interests in the share capital of the company is governed by the Disclosure and Transparency Rules (DTR) made by the UK Financial Services Authority. Under DTR 5, we have received notification that Legal and General Group Plc hold 4.34% of the voting rights of the issued share capital of the company. Related-party transactions Transactions between the group and its significant jointly controlled entities and associates are summarized in Financial statements – Note 26 on page 140 and Financial statements – Note 27 on page 141. In the ordinary course of its business, the group enters into transactions with various organizations with which certain of its directors or executive officers are associated. Except as described in this report, the group did not have material transactions or transactions of an unusual nature with, and did not make loans to, related parties in the period commencing 1 January 2008 to 18 February 2009. 91 l s r e d o h e r a h s r o f n o i t a m r o f n i l a n o i t i d d A BP Annual Report and Accounts 2008 Additional information for shareholders Dividends BP has paid dividends on its ordinary shares in each year since 1917. In 2000 and thereafter, dividends were, and are expected to continue to be, paid quarterly in March, June, September and December. Former Amoco Corporation and Atlantic Richfield Company shareholders will not be able to receive dividends, or proxy material, until they send in their Amoco Corporation or Atlantic Richfield Company common shares for exchange. BP currently announces dividends for ordinary shares in US dollars and states an equivalent pounds sterling dividend. Dividends on BP ordinary shares will be paid in pounds sterling and on BP ADSs in US dollars. The rate of exchange used to determine the sterling amount equivalent is the average of the forward exchange rate in London over the five business days prior to the announcement date. The directors may choose to declare dividends in any currency provided that a sterling equivalent is announced, but it is not the company’s intention to change its current policy of announcing dividends on ordinary shares in US dollars. The following table shows dividends announced and paid by the company per ADS for each of the past five years. In the case of dividends paid before 1 May 2004, the dividends shown are before the deemed credit allowed to shareholders resident in the US under the former income tax convention between the US and the UK and the associated withholding tax in respect thereof equal to the amount of such credit. (This deemed credit and associated withholding tax do not apply to dividends paid after 30 April 2004 to shareholders resident in the US.) March June September December Total Dividends per American depositary share 2004 2005 2006 2007 2008 UK pence US cents Canadian cents UK pence US cents Canadian cents UK pence US cents Canadian cents UK pence US cents Canadian cents UK pence US cents Canadian cents 22.0 40.5 53.7 27.1 51.0 64.0 31.7 56.25 64.5 31.5 61.95 73.3 40.9 81.15 80.8 22.8 40.5 54.8 26.7 51.0 63.2 31.5 56.25 64.1 30.9 61.95 69.5 41.0 81.15 82.5 23.2 42.6 56.7 30.7 53.55 65.3 31.9 58.95 67.4 31.7 64.95 67.8 42.2 84.00 85.8 23.5 42.6 52.2 30.4 53.55 63.7 31.4 58.95 66.5 31.8 64.95 63.6 52.2 84.00 108.6 91.5 166.2 217.4 114.9 209.1 256.2 126.5 230.40 262.5 125.9 253.8 274.2 176.3 330.3 357.7 A dividend reinvestment plan is in place whereby holders of BP ordinary shares can elect to reinvest the net cash dividend in shares purchased on the London Stock Exchange. This plan is not available to any person resident in the US or Canada or in any jurisdiction outside the UK where such an offer requires compliance by the company with any governmental or regulatory procedures or any similar formalities. A dividend reinvestment plan is, however, available for holders of ADSs through JPMorgan Chase Bank. Future dividends will be dependent on future earnings, the financial condition of the group, the Risk factors set out on pages 12-14 and other matters that may affect the business of the group set out in Financial and operating performance on page 50 and in Liquidity and capital resources on page 58. Legal proceedings Save as disclosed in the following paragraphs, no member of the group is a party to, and no property of a member of the group is subject to, any pending legal proceedings that are significant to the group. BP America Inc. (BP America) continues to be subject to oversight by an independent monitor, who has authority to investigate and report alleged violations of the US Commodity Exchange Act or US Commodity Futures Trading Commission (CFTC) regulations and to recommend corrective action. The appointment of the independent monitor was a condition of the deferred prosecution agreement (DPA) entered into with the US Department of Justice (DOJ) on 25 October 2007 relating to allegations that BP America manipulated the price of February 2004 TET physical propane and attempted to manipulate the price of TET propane in April 2003 and the companion consent order with the CFTC, entered the same day, resolving all criminal and civil enforcement matters pending at that time concerning propane trading by BP Products North America Inc. (BP Products). The DPA requires BP America’s and certain of its affiliates’ continued co-operation with the US government investigations of the trades in question, as well as other trading matters that may arise. The DPA has a term of three years but can be extended by two additional one-year periods, and contemplates dismissal of all charges at the end of the term following the DOJ’s determination that BP America has complied with the terms of the DPA. Investigations into BP’s trading activities continue to be conducted from time to time. 92 Private complaints, including class actions, have also been filed against BP Products alleging propane price manipulation. The complaints contain allegations similar to those in the CFTC action as well as of violations of federal and state antitrust and unfair competition laws and state consumer protection statutes and unjust enrichment. The complaints seek actual and punitive damages and injunctive relief. Settlement with one group of the class actions has received preliminary approval from the court and final approval is expected in 2009. On 23 March 2005, an explosion and fire occurred in the isomerization unit of BP Products’ Texas City refinery as the unit was coming out of planned maintenance. Fifteen workers died in the incident and many others were injured. BP Products has resolved all civil claims arising from the incident, except for a small number of claims that remain on appeal following dismissal in the trial court. In March 2007, the US Chemical Safety and Hazard Investigation Board (CSB) issued its final report on the incident. The report contained recommendations to the Texas City refinery and to the board of the company. In May 2007, BP responded to the CSB’s recommendations. BP and the CSB continue to discuss BP’s responses with the objective of the CSB agreeing to close-out its recommendations. BP Annual Report and Accounts 2008 Additional information for shareholders On 25 October 2007, the DOJ announced that it had entered into a criminal plea agreement with BP Products related to the March 2005 explosion and fire. Following BP Products’ guilty plea on 4 February 2008, pursuant to the plea agreement, to one felony violation of the risk management planning regulations promulgated under the US federal Clean Air Act, a series of appeals were taken by victims of the incident, who alleged that the plea agreement did not fully take into account the victims’ injuries. On 7 October 2008, after resolution of those appeals, BP Products returned to court to argue for acceptance of the guilty plea. At the plea hearing, the court advised that it would take the matter under review and decide whether to accept or reject the plea. If the court accepts the agreement, BP Products will pay a $50 million criminal fine and serve three years’ probation. Compliance with a 2005 OSHA settlement agreement and an agreed order entered into by BP Products with the Texas Commission on Environmental Quality (TCEQ) are conditions of probation. The TCEQ and the DOJ continue to investigate certain matters arising from the March 2005 explosion and fire. On 29 November 2007, BP Exploration (Alaska) Inc. (BPXA) entered into a criminal plea agreement with the DOJ relating to leaks of crude oil in March and August 2006. BPXA’s guilty plea, to a misdemeanour violation of the US Federal Water Pollution Control Act, included a term of three years’ probation. BPXA is eligible to petition the court for termination of the probation term if it meets certain benchmarks relating to replacement of the transit lines, upgrades to its leak detection system and improvements to its integrity management programme. BPXA continues to co-operate with a parallel State of Alaska civil investigation into the March and August 2006 spills, including three separate subpoenas issued to BPXA by the Alaska Department of Environmental Conservation. BPXA is also engaged in discussions with the DOJ, the EPA and the US Department of Transportation concerning a civil enforcement action relating to the 2006 Prudhoe Bay oil transit line incidents. Shareholder derivative lawsuits alleging breach of fiduciary duty that were filed in US federal and state courts against the directors of the company and others, nominally the company and certain US subsidiaries, following the events relating to, inter alia, Prudhoe Bay, Texas City and the trading cases, have been settled (following court approval of the settlement terms) and the claims have been dismissed. Approximately 200 lawsuits were filed in state and federal courts in Alaska seeking compensatory and punitive damages arising out of the Exxon Valdez oil spill in Prince William Sound in March 1989. Most of those suits named Exxon (now ExxonMobil), Alyeska Pipeline Service Company (Alyeska), which operates the oil terminal at Valdez, and the other oil companies that own Alyeska. Alyeska initially responded to the spill until the response was taken over by Exxon. BP owns a 46.9% interest (reduced during 2001 from 50% by a sale of 3.1% to Phillips) in Alyeska through a subsidiary of BP America Inc. and briefly indirectly owned a further 20% interest in Alyeska following BP’s combination with Atlantic Richfield. Alyeska and its owners have settled all the claims against them under these lawsuits. Exxon has indicated that it may file a claim for contribution against Alyeska for a portion of the costs and damages that it has incurred. If any claims are asserted by Exxon that affect Alyeska and its owners, BP will defend the claims vigorously. Since 1987, Atlantic Richfield, a subsidiary of BP, has been named as a co-defendant in numerous lawsuits brought in the US alleging injury to persons and property caused by lead pigment in paint. The majority of the lawsuits have been abandoned or dismissed against Atlantic Richfield. Atlantic Richfield is named in these lawsuits as alleged successor to International Smelting and Refining and another company that manufactured lead pigment during the period 1920-1946. Plaintiffs include individuals and governmental entities. Several of the lawsuits purport to be class actions. The lawsuits seek various remedies including compensation to lead-poisoned children, cost to find and remove lead paint from buildings, medical monitoring and screening programmes, public warning and education of lead hazards, reimbursement of government healthcare costs and special education for lead-poisoned citizens and punitive damages. No lawsuit against Atlantic Richfield has been settled nor has Atlantic Richfield been subject to a final adverse judgment in any proceeding. The amounts claimed and, if such suits were successful, the costs of implementing the remedies sought in the various cases could be substantial. While it is not possible to predict the outcome of these legal actions, Atlantic Richfield believes that it has valid defences and it intends to defend such actions vigorously and that the incurrence of liability is remote. Consequently, BP believes that the impact of these lawsuits on the group’s results of operations, financial position or liquidity will not be material. In January 2009, the TNK-BP shareholders resolved, or agreed a process for resolving, all outstanding claims between them, including those relating to Russian back taxes. The suit filed in Russia by a minority shareholder in TNK-BP Holding, alleging that an agreement by BP specialists to provide services to the TNK-BP group is invalid and demanding repayment of sums paid to BP for such services, has been withdrawn. For certain information regarding environmental proceedings, see Environment – US regional review on page 46. The offer and listing Markets and market prices The primary market for BP’s ordinary shares is the London Stock Exchange (LSE). BP’s ordinary shares are a constituent element of the Financial Times Stock Exchange 100 Index. BP’s ordinary shares are also traded on stock exchanges in France and Germany. Trading of BP’s shares on the LSE is primarily through the use of the Stock Exchange Electronic Trading Service (SETS), introduced in 1997 for the largest companies in terms of market capitalization whose primary listing is the LSE. Under SETS, buy and sell orders at specific prices may be sent to the exchange electronically by any firm that is a member of the LSE, on behalf of a client or on behalf of itself acting as a principal. The orders are then anonymously displayed in the order book. When there is a match on a buy and a sell order, the trade is executed and automatically reported to the LSE. Trading is continuous from 8.00 a.m. to 4.30 p.m. UK time but, in the event of a 20% movement in the share price either way, the LSE may impose a temporary halt in the trading of that company’s shares in the order book to allow the market to re-establish equilibrium. Dealings in ordinary shares may also take place between an investor and a market-maker, via a member firm, outside the electronic order book. In the US, the company’s securities are traded in the form of ADSs, for which JPMorgan Chase Bank is the depositary (the Depositary) and transfer agent. The Depositary’s principal office is 4 New York Plaza, Floor 13, New York, NY 10004, US. Each ADS represents six ordinary shares. ADSs are listed on the New York Stock Exchange. ADSs are evidenced by American depositary receipts (ADRs), which may be issued in either certificated or book entry form. The following table sets forth for the periods indicated the highest and lowest middle market quotations for BP’s ordinary shares for the periods shown. These are derived from the Daily Official List of the LSE and the highest and lowest sales prices of ADSs as reported on the New York Stock Exchange (NYSE) composite tape. 93 l s r e d o h e r a h s r o f n o i t a m r o f n i l a n o i t i d d A Pence Ordinary shares High Low High Dollars American depositary sharesa Low 561.00 686.00 723.00 640.00 657.25 574.50 606.50 617.00 640.00 648.00 657.25 583.00 541.25 566.50 536.00 518.75 540.00 541.25 566.50 518.00 407.75 499.00 558.50 504.50 370.00 504.50 542.50 516.00 548.00 495.00 501.34 446.00 370.00 461.50 446.00 370.00 450.25 476.00 470.50 461.50 62.10 72.75 76.85 79.77 77.69 67.27 72.49 75.25 79.77 75.87 77.69 69.10 51.49 49.83 58.13 50.96 51.49 50.10 49.83 46.07 46.65 56.60 63.52 58.62 37.57 58.62 64.42 61.10 67.24 57.87 60.25 48.35 37.57 39.45 48.35 37.57 39.45 41.55 39.45 39.91 BP Annual Report and Accounts 2008 Additional information for shareholders Year ended 31 December 2004 2005 2006 2007 2008 Year ended 31 December 2007: First quarter Second quarter Third quarter Fourth quarter 2008: First quarter Second quarter Third quarter Fourth quarter 2009: First quarter (to 18 February) Month of September 2008 October 2008 November 2008 December 2008 January 2009 February 2009 (to 18 February) aAn ADS is equivalent to six 25 cent ordinary shares. Market prices for the ordinary shares on the LSE and in after-hours trading off the LSE, in each case while the NYSE is open, and the market prices for ADSs on the NYSE are closely related due to arbitrage among the various markets, although differences may exist from time to time due to various factors, including UK stamp duty reserve tax. On 18 February 2009, 864,042,084 ADSs (equivalent to 5,184,252,501 ordinary shares or some 27.51% of the total issued share capital, excluding treasury shares) were outstanding and were held by approximately 136,213 ADS holders. Of these, about 134,710 had registered addresses in the US at that date. One of the registered holders of ADSs represents some 818,000 underlying holders. On 18 February 2009, there were approximately 317,409 holders of record of ordinary shares. Of these holders, around 1,504 had registered addresses in the US and held a total of some 4,236,569 ordinary shares. Since certain of the ordinary shares and ADSs were held by brokers and other nominees, the number of holders of record in the US may not be representative of the number of beneficial holders or of their country of residence. 94 BP Annual Report and Accounts 2008 Additional information for shareholders Memorandum and Articles of Association The following summarizes certain provisions of the company’s Memorandum and Articles of Association and applicable English law. This summary is qualified in its entirety by reference to the UK Companies Act and the company’s Memorandum and Articles of Association. Information on where investors can obtain copies of the Memorandum and Articles of Association is described under the heading ‘Documents on display’ on page 98. On 24 April 2003, the shareholders of BP voted at the AGM to adopt new Articles of Association to consolidate amendments that had been necessary to implement legislative changes since the previous Articles of Association were adopted in 1983. At the AGM held on 15 April 2004, shareholders approved an amendment to the Articles of Association such that, at each AGM held after 31 December 2004, all directors shall retire from office and may offer themselves for re-election. At the AGM held on 17 April 2008, shareholders voted to adopt new Articles of Association, largely to take account of changes in UK company law brought about by the Companies Act 2006. Further amendments to the Articles of Association are likely to be required at our AGM in 2010, to reflect the full implementation of the Companies Act 2006. Objects and purposes BP is incorporated under the name BP p.l.c. and is registered in England and Wales with registered number 102498. Clause 4 of BP’s Memorandum of Association provides that its objects include the acquisition of petroleum-bearing lands; the carrying on of refining and dealing businesses in the petroleum, manufacturing, metallurgical or chemicals businesses; the purchase and operation of ships and all other vehicles and other conveyances; and the carrying on of any other businesses calculated to benefit BP. The memorandum grants BP a range of corporate capabilities to effect these objects. Directors The business and affairs of BP shall be managed by the directors. The Articles of Association place a general prohibition on a director voting in respect of any contract or arrangement in which he has a material interest other than by virtue of his interest in shares in the company. However, in the absence of some other material interest not indicated below, a director is entitled to vote and to be counted in a quorum for the purpose of any vote relating to a resolution concerning the following matters: • The giving of security or indemnity with respect to any money lent or obligation taken by the director at the request or benefit of the company. • Any proposal in which he is interested concerning the underwriting of company securities or debentures. • Any proposal concerning any other company in which he is interested, directly or indirectly (whether as an officer or shareholder or otherwise) provided that he and persons connected with him are not the holder or holders of 1% or more of the voting interest in the shares of such company. • Proposals concerning the modification of certain retirement benefits schemes under which he may benefit and that have been approved by either the UK Board of Inland Revenue or by the shareholders. • Any proposal concerning the purchase or maintenance of any insurance policy under which he may benefit. The UK Companies Act requires a director of a company who is in any way interested in a contract or proposed contract with the company to declare the nature of his interest at a meeting of the directors of the company. The definition of ‘interest’ includes the interests of spouses, children, companies and trusts. The UK Companies Act also requires that a director must avoid a situation where a director has, or could have, a direct or indirect interest that conflicts, or possibly may conflict, with the company’s interests. The Act allows directors of public companies to authorize such conflicts where appropriate, if a company’s Articles of Association so permit. BP’s Articles of Association permit the authorization of such conflicts. The directors may exercise all the powers of the company to borrow money, except that the amount remaining undischarged of all moneys borrowed by the company shall not, without approval of the shareholders, exceed the amount paid up on the share capital plus the aggregate of the amount of the capital and revenue reserves of the company. Variation of the borrowing power of the board may only be effected by amending the Articles of Association. Remuneration of non-executive directors shall be determined in the aggregate by resolution of the shareholders. Remuneration of executive directors is determined by the remuneration committee. This committee is made up of non-executive directors only. There is no requirement of share ownership for a director’s qualification. Dividend rights; other rights to share in company profits; capital calls If recommended by the directors of BP, BP shareholders may, by resolution, declare dividends but no such dividend may be declared in excess of the amount recommended by the directors. The directors may also pay interim dividends without obtaining shareholder approval. No dividend may be paid other than out of profits available for distribution, as determined under IFRS and the UK Companies Act. Dividends on ordinary shares are payable only after payment of dividends on BP preference shares. Any dividend unclaimed after a period of 12 years from the date of declaration of such dividend shall be forfeited and reverts to BP. The directors have the power to declare and pay dividends in any currency provided that a sterling equivalent is announced. It is not the company’s intention to change its current policy of paying dividends in US dollars. Apart from shareholders’ rights to share in BP’s profits by dividend (if any is declared), the Articles of Association provide that the directors may set aside: • A special reserve fund out of the balance of profits each year to make up any deficit of cumulative dividend on the BP preference shares. • A general reserve out of the balance of profits each year, which shall be applicable for any purpose to which the profits of the company may properly be applied. This may include capitalization of such sum, pursuant to an ordinary shareholders’ resolution, and distribution to shareholders as if it were distributed by way of a dividend on the ordinary shares or in paying up in full unissued ordinary shares for allotment and distribution as bonus shares. Any such sums so deposited may be distributed in accordance with the manner of distribution of dividends as described above. Holders of shares are not subject to calls on capital by the company, provided that the amounts required to be paid on issue have been paid off. All shares are fully paid. 95 l s r e d o h e r a h s r o f n o i t a m r o f n i l a n o i t i d d A BP Annual Report and Accounts 2008 Additional information for shareholders Voting rights The Articles of Association of the company provide that voting on resolutions at a shareholders’ meeting will be decided on a poll other than resolutions of a procedural nature, which may be decided on a show of hands. If voting is on a poll, every shareholder who is present in person or by proxy has one vote for every ordinary share held and two votes for every £5 in nominal amount of BP preference shares held. If voting is on a show of hands, each shareholder who is present at the meeting in person or whose duly appointed proxy is present in person will have one vote, regardless of the number of shares held, unless a poll is requested. Shareholders do not have cumulative voting rights. Holders of record of ordinary shares may appoint a proxy, including a beneficial owner of those shares, to attend, speak and vote on their behalf at any shareholders’ meeting. Record holders of BP ADSs are also entitled to attend, speak and vote at any shareholders’ meeting of BP by the appointment by the approved depositary, JPMorgan Chase Bank, of them as proxies in respect of the ordinary shares represented by their ADSs. Each such proxy may also appoint a proxy. Alternatively, holders of BP ADSs are entitled to vote by supplying their voting instructions to the depositary, who will vote the ordinary shares represented by their ADSs in accordance with their instructions. Proxies may be delivered electronically. Matters are transacted at shareholders’ meetings by the proposing and passing of resolutions, of which there are three types: ordinary, special or extraordinary. An annual general meeting must be held once in every year and all other general meetings will be called extraordinary general meetings. An ordinary resolution requires the affirmative vote of a majority of the votes of those persons voting at a meeting at which there is a quorum. Special and extraordinary resolutions require the affirmative vote of not less than three-fourths of the persons voting at a meeting at which there is a quorum. Any AGM requires 21 days’ notice. The notice period for an extraordinary general meeting is 14 days. With the implementation of the EU Shareholder Rights Directive into UK law expected later this year, reliance on this notice period of 14 days will require annual shareholder approval, failing which, a 21-day notice period will apply. Liquidation rights; redemption provisions In the event of a liquidation of BP, after payment of all liabilities and applicable deductions under UK laws and subject to the payment of secured creditors, the holders of BP preference shares would be entitled to the sum of (i) the capital paid up on such shares plus, (ii) accrued and unpaid dividends and (iii) a premium equal to the higher of (a) 10% of the capital paid up on the BP preference shares and (b) the excess of the average market price over par value of such shares on the LSE during the previous six months. The remaining assets (if any) would be divided pro rata among the holders of ordinary shares. Without prejudice to any special rights previously conferred on the holders of any class of shares, BP may issue any share with such preferred, deferred or other special rights, or subject to such restrictions as the shareholders by resolution determine (or, in the absence of any such resolutions, by determination of the directors), and may issue shares that are to be or may be redeemed. Variation of rights The rights attached to any class of shares may be varied with the consent in writing of holders of 75% of the shares of that class or on the adoption of an extraordinary resolution passed at a separate meeting of the holders of the shares of that class. At every such separate meeting, all of the provisions of the Articles of Association relating to proceedings at a general meeting apply, except that the quorum with respect to a meeting to change the rights attached to the preference shares is 10% or more of the shares of that class, and the quorum to change the rights attached to the ordinary shares is one-third or more of the shares of that class. 96 Shareholders’ meetings and notices Shareholders must provide BP with a postal or electronic address in the UK in order to be entitled to receive notice of shareholders’ meetings. In certain circumstances, BP may give notices to shareholders by advertisement in UK newspapers. Holders of BP ADSs are entitled to receive notices under the terms of the deposit agreement relating to BP ADSs. The substance and timing of notices is described above under the heading Voting Rights. Under the Articles of Association, the AGM of shareholders will be held within the six-month period from the first day of BP’s accounting period. All general meetings shall be held at a time and place determined by the directors within the UK. If any shareholders’ meeting is adjourned for lack of quorum, notice of the time and place of the meeting may be given in any lawful manner, including electronically. Powers exist for action to be taken either before or at the meeting by authorized officers to ensure its orderly conduct and safety of those attending. Limitations on voting and shareholding There are no limitations imposed by English law or the company’s Memorandum or Articles of Association on the right of non-residents or foreign persons to hold or vote the company’s ordinary shares or ADSs, other than limitations that would generally apply to all of the shareholders. Disclosure of interests in shares The UK Companies Act permits a public company, on written notice, to require any person whom the company believes to be or, at any time during the previous three years prior to the issue of the notice, to have been interested in its voting shares, to disclose certain information with respect to those interests. Failure to supply the information required may lead to disenfranchisement of the relevant shares and a prohibition on their transfer and receipt of dividends and other payments in respect of those shares. In this context the term ‘interest’ is widely defined and will generally include an interest of any kind whatsoever in voting shares, including any interest of a holder of BP ADSs. Exchange controls There are currently no UK foreign exchange controls or restrictions on remittances of dividends on the ordinary shares or on the conduct of the company’s operations. There are no limitations, either under the laws of the UK or under the company’s Articles of Association, restricting the right of non-resident or foreign owners to hold or vote BP ordinary or preference shares in the company. Taxation This section describes the material US federal income tax and UK taxation consequences of owning ordinary shares or ADSs to a US holder who holds the ordinary shares or ADSs as capital assets for tax purposes. It does not apply, however, to members of special classes of holders subject to special rules and holders that, directly or indirectly, hold 10% or more of the company’s voting stock. A US holder is any beneficial owner of ordinary shares or ADSs that is for US federal income tax purposes (i) a citizen or resident of the US, (ii) a US domestic corporation, (iii) an estate whose income is subject to US federal income taxation regardless of its source, or (iv) a trust if a US court can exercise primary supervision over the trust’s administration and one or more US persons are authorized to control all substantial decisions of the trust. This section is based on the Internal Revenue Code of 1986, as amended, its legislative history, existing and proposed regulations thereunder, published rulings and court decisions, and the taxation laws of the UK, all as currently in effect, as well as the income tax convention BP Annual Report and Accounts 2008 Additional information for shareholders between the US and the UK that entered into force on 31 March 2003 (the Treaty). These laws are subject to change, possibly on a retroactive basis. This section is further based in part on the representations of the Depositary and assumes that each obligation in the Deposit Agreement and any related agreement will be performed in accordance with its terms. For purposes of the Treaty and the estate and gift tax Convention (the ‘Estate Tax Convention’), and for US federal income tax and UK taxation purposes, a holder of ADRs evidencing ADSs will be treated as the owner of the company’s ordinary shares represented by those ADRs. Exchanges of ordinary shares for ADRs and ADRs for ordinary shares generally will not be subject to US federal income tax or to UK taxation other than stamp duty or stamp duty reserve tax, as described below. Investors should consult their own tax adviser regarding the US federal, state and local, the UK and other tax consequences of owning and disposing of ordinary shares and ADSs in their particular circumstances, and in particular whether they are eligible for the benefits of the Treaty. Taxation of dividends UK taxation Under current UK taxation law, no withholding tax will be deducted from dividends paid by the company, including dividends paid to US holders. A shareholder that is a company resident for tax purposes in the UK or trading in the UK through a permanent establishment generally will not be taxable in the UK on a dividend it receives from the company. A shareholder who is an individual resident for tax purposes in the UK is subject to UK tax but entitled to a tax credit on cash dividends paid on ordinary shares or ADSs of the company equal to one-ninth of the cash dividend. US federal income taxation A US holder is subject to US federal income taxation on the gross amount of any dividend paid by the company out of its current or accumulated earnings and profits (as determined for US federal income tax purposes). Dividends paid to a non-corporate US holder in taxable years beginning before 1 January 2011 that constitute qualified dividend income will be taxable to the holder at a maximum tax rate of 15%, provided that the holder has a holding period in the ordinary shares or ADSs of more than 60 days during the 121-day period beginning 60 days before the ex-dividend date and meets other holding period requirements. Dividends paid by the company with respect to the shares or ADSs will generally be qualified dividend income. As noted above in UK taxation, a US holder will not be subject to UK withholding tax. A US holder will include in gross income for US federal income tax purposes the amount of the dividend actually received from the company and the receipt of a dividend will not entitle the US holder to a foreign tax credit. For US federal income tax purposes, a dividend must be included in income when the US holder, in the case of ordinary shares, or the Depositary, in the case of ADSs, actually or constructively receives the dividend, and will not be eligible for the dividends-received deduction generally allowed to US corporations in respect of dividends received from other US corporations. Dividends will be income from sources outside the US, and generally will be ‘passive category income’ or, in the case of certain US holders, ‘general category income,’ each of which is treated separately for purposes of computing the allowable foreign tax credit. The amount of the dividend distribution on the ordinary shares or ADSs that is paid in pounds sterling will be the US dollar value of the pounds sterling payments made, determined at the spot pounds sterling/US dollar rate on the date the dividend distribution is includible in income, regardless of whether the payment is in fact converted into US dollars. Generally, any gain or loss resulting from currency exchange fluctuations during the period from the date the pounds sterling dividend payment is includible in income to the date the payment is converted into US dollars will be treated as ordinary income or loss and will not be eligible for the 15% tax rate on qualified dividend income. The gain or loss generally will be income or loss from sources within the US for foreign tax credit limitation purposes. Distributions in excess of the company’s earnings and profits, as determined for US federal income tax purposes, will be treated as a return of capital to the extent of the US holder’s basis in the ordinary shares or ADSs and thereafter as capital gain, subject to taxation as described in Taxation of capital gains – US federal income taxation. Taxation of capital gains UK taxation A US holder may be liable for both UK and US tax in respect of a gain on the disposal of ordinary shares or ADSs if the US holder is (i) a citizen of the US resident or ordinarily resident in the UK, (ii) a US domestic corporation resident in the UK by reason of its business being managed or controlled in the UK or (iii) a citizen of the US or a corporation that carries on a trade or profession or vocation in the UK through a branch or agency or, in respect of corporations for accounting periods beginning on or after 1 January 2003, through a permanent establishment, and that have used, held, or acquired the ordinary shares or ADSs for the purposes of such trade, profession or vocation of such branch, agency or permanent establishment. However, such persons may be entitled to a tax credit against their US federal income tax liability for the amount of UK capital gains tax or UK corporation tax on chargeable gains (as the case may be) that is paid in respect of such gain. Under the Treaty, capital gains on dispositions of ordinary shares or ADSs generally will be subject to tax only in the jurisdiction of residence of the relevant holder as determined under both the laws of the UK and the US and as required by the terms of the Treaty. Under the Treaty, individuals who are residents of either the UK or the US and who have been residents of the other jurisdiction (the US or the UK, as the case may be) at any time during the six years immediately preceding the relevant disposal of ordinary shares or ADSs may be subject to tax with respect to capital gains arising from a disposition of ordinary shares or ADSs of the company not only in the jurisdiction of which the holder is resident at the time of the disposition but also in the other jurisdiction. US federal income taxation A US holder that sells or otherwise disposes of ordinary shares or ADSs will recognize a capital gain or loss for US federal income tax purposes equal to the difference between the US dollar value of the amount realized and the holder’s tax basis, determined in US dollars, in the ordinary shares or ADSs. Capital gain of a non-corporate US holder that is recognized in taxable years beginning before 1 January 2011 is generally taxed at a maximum rate of 15% if the holder’s holding period for such ordinary shares or ADSs exceeds one year. The gain or loss will generally be income or loss from sources within the US for foreign tax credit limitation purposes. The deductibility of capital losses is subject to limitations. We do not believe that ordinary shares or ADSs will be treated as stock of a passive foreign investment company, or PFIC, for US federal income tax purposes, but this conclusion is a factual determination that is made annually and thus is subject to change. If we are treated as a PFIC, unless a US holder elects to be taxed annually on a mark-to-mark basis with respect to ordinary shares or ADSs, gain realized on the sale or other disposition of ordinary shares or ADSs would in general not be treated as capital gain. Instead a US holder would be treated as if he or she had realized such gain and certain ‘excess distributions’ ratably over the holding period for ordinary shares or ADSs and would be taxed at the highest tax rate in effect for each such year to which the gain was allocated, in addition to which an interest charge in respect of the tax attributable to each such year would apply. 97 l s r e d o h e r a h s r o f n o i t a m r o f n i l a n o i t i d d A BP Annual Report and Accounts 2008 Additional information for shareholders Additional tax considerations UK inheritance tax The Estate Tax Convention applies to inheritance tax. ADSs held by an individual who is domiciled for the purposes of the Estate Tax Convention in the US and is not for the purposes of the Estate Tax Convention a national of the UK will not be subject to UK inheritance tax on the individual’s death or on transfer during the individual’s lifetime unless, among other things, the ADSs are part of the business property of a permanent establishment situated in the UK used for the performance of independent personal services. In the exceptional case where ADSs are subject both to inheritance tax and to US federal gift or estate tax, the Estate Tax Convention generally provides for tax payable in the US to be credited against tax payable in the UK or for tax paid in the UK to be credited against tax payable in the US, based on priority rules set forth in the Estate Tax Convention. UK stamp duty and stamp duty reserve tax The statements below relate to what is understood to be the current practice of HM Revenue & Customs in the UK under existing law. Provided that any instrument of transfer is not executed in the UK and remains at all times outside the UK and the transfer does not relate to any matter or thing done or to be done in the UK, no UK stamp duty is payable on the acquisition or transfer of ADSs. Neither will an agreement to transfer ADSs in the form of ADRs give rise to a liability to stamp duty reserve tax. Purchases of ordinary shares, as opposed to ADSs, through the CREST system of paperless share transfers will be subject to stamp duty reserve tax at 0.5%. The charge will arise as soon as there is an agreement for the transfer of the shares (or, in the case of a conditional agreement, when the condition is fulfilled). The stamp duty reserve tax will apply to agreements to transfer ordinary shares even if the agreement is made outside the UK between two non-residents. Purchases of ordinary shares outside the CREST system are subject either to stamp duty at a rate of £5 per £1,000 (or part, unless the stamp duty is less than £5, when no stamp duty is charged), or stamp duty reserve tax at 0.5%. Stamp duty and stamp duty reserve tax are generally the liability of the purchaser. A subsequent transfer of ordinary shares to the Depositary’s nominee will give rise to further stamp duty at the rate of £1.50 per £100 (or part) or stamp duty reserve tax at the rate of 1.5% of the value of the ordinary shares at the time of the transfer. An ADR holder electing to receive ADSs instead of a cash dividend will be responsible for the stamp duty reserve tax due on issue of shares to the Depositary’s nominee and calculated at the rate of 1.5% on the issue price of the shares. It is understood that HM Revenue & Customs practice is to calculate the issue price by reference to the total cash receipt to which a US holder would have been entitled had the election to receive ADSs instead of a cash dividend not been made. ADR holders electing to receive ADSs instead of the cash dividend authorize the Depositary to sell sufficient shares to cover this liability. Documents on display BP’s Annual Report and Accounts is also available online at www.bp.com/annualreport. Shareholders may obtain a hard copy of BP’s complete audited financial statements, free of charge, by contacting BP Distribution Services at +44 (0)870 241 3269 or through an email request addressed to bpdistributionservices@bp.com, or BP’s US Shareholder Services office in Warrenville, Illinois at +1 800 638 5672 or through an email request addressed to shareholderus@bp.com. The company is subject to the information requirements of the US Securities Exchange Act of 1934 applicable to foreign private issuers. In accordance with these requirements, the company files its Annual Report on Form 20-F and other related documents with the SEC. It is possible to read and copy documents that have been filed with the SEC at the SEC’s public reference room located at 100 F Street NE, Washington, DC 20549, US. You may also call the SEC at +1 800-SEC 0330 or log on to www.sec.gov. In addition, BP’s SEC filings are available to the public at the SEC’s website www.sec.gov. BP discloses on its website at www.bp.com/NYSEcorporategovernancerules, and in its Annual Report on Form 20-F (Item 16G) significant ways (if any) in which its corporate governance practices differ from those mandated for US companies under NYSE listing standards. Details of some of BP’s other publications are listed on the inside back cover. 98 BP Annual Report and Accounts 2008 Additional information for shareholders Purchases of equity securities by the issuer and affiliated purchasers The following table provides details of ordinary shares repurchased. Total number of shares purchased a b $ Average price paid per share Total number of shares purchased as part of publicly announced programmes Maximum number of shares that may yet be purchased under the programme c 2008 January February March April May June July August September October November December 2009 January February (to 18 February) 41,187,000 24,314,706 25,494,193 28,537,196 27,570,000 29,793,000 32,285,000 33,006,764 27,569,329 – – – – – 11.26 10.90 10.60 11.02 12.34 11.58 10.67 9.86 8.92 – – – – – 41,187,000 24,314,706 25,494,193 28,537,196 27,570,000 29,793,000 32,285,000 33,006,764 27,569,329 – – – – – aAll share purchases were open market transactions. bAll shares were repurchased for cancellation. cAt the AGM on 17 April 2008, authorization was given to repurchase up to 1.9 billion ordinary shares in the period to the next AGM in 2009 or 16 July 2009, the latest date by which an AGM must be held. This authorization is renewed annually at the AGM. The following table provides details of share purchases made by ESOP trusts. 2008 January February March April May June July August September October November December 2009 January February (to 18 February) Total number of shares purchased – – 30,000,000 680 – – 63 1,500,000 81,694 1,000,772 166 59,049 – 126 $ Average price paid per share Total number of shares purchased as part of publicly announced programmes Maximum number of shares that may yet be purchased under the programmea – – 11.41 11.53 – – 11.08 9.49 8.73 7.39 10.09 8.09 – 7.65 aNo shares were repurchased pursuant to a publicly announced plan. Transactions represent the purchase of ordinary shares by ESOP trusts to satisfy future requirements of employee share schemes. 99 l s r e d o h e r a h s r o f n o i t a m r o f n i l a n o i t i d d A BP Annual Report and Accounts 2008 Additional information for shareholders Called-up share capital Administration Details of the allotted, called up and fully paid share capital at 31 December 2008 are set out in Financial statements – Note 39 on page 165. At the AGM on 17 April 2008, authorization was given to the directors to allot shares up to an aggregate nominal amount equal to $1,586 million. Authority was also given to the directors to allot shares for cash and to dispose of treasury shares, other than by way of rights issue, up to a maximum of $238 million, without having to offer such shares to existing shareholders. These authorities are given for the period until the next AGM in 2009 or 16 July 2009, whichever is the earlier. These authorities are renewed annually at the AGM. Annual general meeting The 2009 AGM will be held on Thursday 16 April 2009 at 11.30 a.m. at ExCeL London, One Western Gateway, Royal Victoria Dock, London E16 1XL. A separate notice convening the meeting is distributed to shareholders, which includes an explanation of the items of business to be considered at the meeting. All resolutions of which notice has been given will be decided on a poll. Ernst & Young LLP have expressed their willingness to continue in office as auditors and a resolution for their reappointment is included in Notice of BP Annual General Meeting 2009. If you have any queries about the administration of shareholdings, such as change of address, change of ownership, dividend payments, the dividend reinvestment plan or the ADS direct access plan, or to change the way you receive your company documents (such as the Annual Report and Accounts, Annual Review and Notice of Meeting) please contact the BP Registrar or ADS Depositary. UK – Registrar’s Office The BP Registrar, Equiniti Aspect House, Spencer Road, Lancing, West Sussex BN99 6DA Freephone in UK 0800 701107; Tel +44 (0)121 415 7005 Textphone 0871 384 2255; Fax +44 (0)871 384 2100 Please note that any numbers quoted with the prefix 0871 will be charged at 8p per minute from a BT landline. Other network providers’ costs may vary. US – ADS Depositary JPMorgan Chase Bank, N.A. PO Box 64504, St. Paul, MN 55164-0504 Toll-free in US and Canada +1 877 638 5672; Tel +1 651 306 4383 For the hearing impaired +1 651 453 2133 By order of the board David J Jackson Secretary 24 February 2009 100 Financial statements 102 Consolidated financial statements of the BP group Statement of directors’ responsibilities in respect of the consolidated financial statements Independent auditor’s report to the members of BP p.l.c. Group income statement Group balance sheet Group cash flow statement Group statement of recognized income and expense 108 Notes on financial statements 1. Significant accounting policies 2. Resegmentation 3. Acquisitions 4. Non-current assets held for sale and discontinued operations 5. Disposals 6. Segmental analysis 7. Interest and other revenues 8. Gains on sale of businesses and fixed assets 9. Production and similar taxes 10. Depreciation, depletion and amortization 11. Impairment and losses on sale of businesses and fixed assets 12. Impairment review of goodwill 13. Distribution and administration expenses 14. Currency exchange gains and losses 15. Research and development 16. Operating leases 17. Exploration for and evaluation of oil and natural gas resources 18. Auditor’s remuneration 19. Finance costs 20. Taxation 21. Dividends 22. Earnings per ordinary share 23. Property, plant and equipment 24. Goodwill 25. Intangible assets 26. Investments in jointly controlled entities 27. Investments in associates 28. Financial instruments and financial risk factors 29. Other investments 30. Inventories 31. Trade and other receivables 32. Cash and cash equivalents 33. Trade and other payables 102 103 104 105 106 107 108 116 117 117 118 120 126 126 127 127 128 129 132 132 132 132 133 134 134 135 136 137 138 139 139 140 141 142 148 148 148 149 149 34. Derivative financial instruments 35. Finance debt 36. Capital disclosures and analysis of changes in net debt 37. Provisions 38. Pensions and other post-retirement benefits 39. Called-up share capital 40. Capital and reserves 41. Share-based payments 42. Employee costs and numbers 43. Remuneration of directors and senior management 44. Contingent liabilities 45. Capital commitments 46. Subsidiaries, jointly controlled entities and associates 47. Oil and natural gas exploration and production activities 180 Additional information for US reporting 48. Auditor’s remuneration for US reporting 49. Valuation and qualifying accounts 50. Computation of ratio of earnings to fixed charges 150 155 157 158 159 165 166 168 172 173 174 174 175 177 180 181 181 182 Supplementary information on oil and natural gas 191 Parent company financial statements of BP p.l.c. Statement of directors’ responsibilities in respect of the parent company financial statements Independent auditor’s report to the members of BP p.l.c. Company balance sheet Company cash flow statement Statement of total recognized gains and losses Notes on financial statements 1. Accounting policies 2. Taxation 3. Fixed assets – investments 4. Debtors 5. Creditors 6. Pensions 7. Called-up share capital 8. Capital and reserves 9. Cash flow 10. Contingent liabilities 11. Share-based payments 12. Auditor’s remuneration 13. Directors’ remuneration 191 192 193 194 194 195 195 196 197 197 198 198 201 201 202 202 203 206 207 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Consolidated financial statements of the BP group Statement of directors’ responsibilities in respect of the consolidated financial statements The directors are responsible for preparing the Annual Report and the consolidated financial statements in accordance with applicable United Kingdom law, International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board and IFRS as adopted by the European Union. The directors are required to prepare financial statements for each financial year that present fairly the financial position of the group and the financial performance and cash flows of the group for that period. In preparing those financial statements, the directors are required to: • Select suitable accounting policies and then apply them consistently. • Present information, including accounting policies, in a manner that provides relevant, reliable, comparable and understandable information. • Provide additional disclosure when compliance with the specific requirements of IFRS is insufficient to enable users to understand the impact of particular transactions, other events and conditions on the group’s financial position and financial performance. • State that the company has complied with IFRS, subject to any material departures disclosed and explained in the financial statements. The directors are responsible for keeping proper accounting records that disclose with reasonable accuracy at any time the financial position of the group and enable them to ensure that the financial statements comply with the Companies Act 1985 and Article 4 of the IAS Regulation. They are also responsible for safeguarding the assets of the group and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities. The group’s business activities, performance, position and risks are set out in this report. The financial position of the group, its cash flows, liquidity position and borrowing facilities are detailed in Liquidity and capital resources on pages 58 to 60 and elsewhere in the notes on financial statements. The report also includes details of the group’s risk mitigation and management. The group has considerable financial resources, and the directors believe that the group is well placed to manage its business risks successfully despite the current uncertain economic outlook. After making enquiries, the directors have a reasonable expectation that the group has adequate resources to continue in operational existence for the foreseeable future. Accordingly, they continue to adopt the going concern basis in preparing the financial statements. Having made the requisite enquiries, so far as the directors are aware, there is no relevant audit information (as defined by Section 234ZA of the Companies Act 1985) of which the group’s auditors are unaware, and the directors have taken all the steps they ought to have taken to make themselves aware of any relevant audit information and to establish that the group’s auditors are aware of that information. The directors confirm that to the best of their knowledge: • The consolidated financial statements, prepared in accordance with IFRS as issued by the International Accounting Standards Board, IFRS as adopted by the European Union and in accordance with the provisions of the Companies Act 1985, give a true and fair view of the assets, liabilities, financial position and profit of the group; and • The management report, which is incorporated in the directors’ report, includes a fair review of the development and performance of the business and the position of the group, together with a description of the principal risks and uncertainties. 102 BP Annual Report and Accounts 2008 Consolidated financial statements of the BP group Independent auditor’s report to the members of BP p.l.c. We have audited the consolidated financial statements of BP p.l.c. for the year ended 31 December 2008 which comprise the group income statement, the group balance sheet, the group cash flow statement, the group statement of recognized income and expense and the related notes 1 to 47. These consolidated financial statements have been prepared under the accounting policies set out therein. We have reported separately on the parent company financial statements of BP p.l.c. for the year ended 31 December 2008 and on the information in the Directors’ Remuneration Report that is described as having been audited. This report is made solely to the company’s members, as a body, in accordance with Section 235 of the Companies Act 1985. Our audit work has been undertaken so that we might state to the company’s members those matters we are required to state to them in an auditors’ report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the company and the company’s members as a body, for our audit work, for this report, or for the opinions we have formed. Respective responsibilities of directors and auditors The directors are responsible for preparing the Annual Report and the consolidated financial statements in accordance with applicable United Kingdom law and International Financial Reporting Standards (IFRS) as adopted by the European Union as set out in the Statement of directors’ responsibilities in respect of the consolidated financial statements. Our responsibility is to audit the consolidated financial statements in accordance with relevant legal and regulatory requirements and International Standards on Auditing (UK and Ireland). We report to you our opinion as to whether the consolidated financial statements give a true and fair view and whether the consolidated financial statements have been properly prepared in accordance with the Companies Act 1985 and Article 4 of the IAS Regulation. We also report to you whether in our opinion the information given in the directors’ report, including the business review, is consistent with the financial statements. In addition we report to you if, in our opinion, we have not received all the information and explanations we require for our audit, or if information specified by law regarding directors’ remuneration and other transactions is not disclosed. We review whether the BP board performance report reflects the company’s compliance with the nine provisions of the 2006 Combined Code Principles of Good Governance and Code of Best Practice specified for our review by the Listing Rules of the Financial Services Authority, and we report if it does not. We are not required to consider whether the board’s statements on internal control cover all risks and controls, or form an opinion on the effectiveness of the group’s corporate governance procedures or its risk and control procedures. We read other information contained in the Annual Report and consider whether it is consistent with the audited consolidated financial statements. The other information comprises the Additional information for US reporting, the Supplementary information on oil and natural gas and the BP board performance report. We consider the implications for our report if we become aware of any apparent misstatements or material inconsistencies with the consolidated financial statements. Our responsibilities do not extend to any other information. Basis of audit opinion We conducted our audit in accordance with International Standards on Auditing (UK and Ireland) issued by the Auditing Practices Board. An audit includes examination, on a test basis, of evidence relevant to the amounts and disclosures in the consolidated financial statements. It also includes an assessment of the significant estimates and judgements made by the directors in the preparation of the consolidated financial statements, and of whether the accounting policies are appropriate to the group’s circumstances, consistently applied and adequately disclosed. We planned and performed our audit so as to obtain all the information and explanations which we considered necessary in order to provide us with sufficient evidence to give reasonable assurance that the consolidated financial statements are free from material misstatement, whether caused by fraud or other irregularity or error. In forming our opinion we also evaluated the overall adequacy of the presentation of information in the consolidated financial statements. Opinion In our opinion: • The consolidated financial statements give a true and fair view, in accordance with IFRS as adopted by the European Union, of the state of the group’s affairs as at 31 December 2008 and of its profit for the year then ended. • The consolidated financial statements have been properly prepared in accordance with the Companies Act 1985 and Article 4 of the IAS Regulation. • The information given in the directors’ report is consistent with the consolidated financial statements. Separate opinion in relation to IFRS as issued by the International Accounting Standards Board As explained in Note 1 to the consolidated financial statements, the group, in addition to complying with its legal obligation to comply with IFRS as adopted by the European Union, has also complied with IFRS as issued by the International Accounting Standards Board. In our opinion the consolidated financial statements give a true and fair view, in accordance with IFRS as issued by the International Accounting Standards Board, of the state of the group’s affairs as at 31 December 2008 and of its profit for the year then ended. Ernst & Young LLP Registered auditor London 24 February 2009 The maintenance and integrity of the BP p.l.c. website are the responsibility of the directors; the work carried out by the auditors does not involve consideration of these matters and, accordingly, the auditors accept no responsibility for any changes that may have occurred to the financial statements since they were initially presented on the website. Legislation in the United Kingdom governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions. 103 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Consolidated financial statements of the BP group Group income statement For the year ended 31 December Sales and other operating revenues Earnings from jointly controlled entities – after interest and tax Earnings from associates – after interest and tax Interest and other revenues Total revenues Gains on sale of businesses and fixed assets Total revenues and other income Purchases Production and manufacturing expenses Production and similar taxes Depreciation, depletion and amortization Impairment and losses on sale of businesses and fixed assets Exploration expense Distribution and administration expenses Fair value (gain) loss on embedded derivatives Profit before interest and taxation from continuing operations Finance costs Net finance income relating to pensions and other post-retirement benefits Profit before taxation from continuing operations Taxation Profit from continuing operations Loss from Innovene operations Profit for the year Attributable to BP shareholders Minority interest Earnings per share – cents Profit for the year attributable to BP shareholders Basic Diluted Profit from continuing operations attributable to BP shareholders Basic Diluted Note 7 6 8 9 10 11 17 13 34 19 38 20 4 2008 361,143 3,023 798 736 365,700 1,353 367,053 266,982 29,183 6,526 10,985 1,733 882 15,412 111 35,239 1,547 (591) 34,283 12,617 21,666 – 21,666 21,157 509 21,666 2007 284,365 3,135 697 754 288,951 2,487 291,438 200,766 25,915 4,013 10,579 1,679 756 15,371 7 32,352 1,393 (652) 31,611 10,442 21,169 – 21,169 $ million 2006 265,906 3,553 442 701 270,602 3,714 274,316 187,183 23,793 3,621 9,128 549 1,045 14,447 (608) 35,158 986 (470) 34,642 12,331 22,311 (25) 22,286 20,845 324 21,169 22,000 286 22,286 22 22 112.59 111.56 108.76 107.84 109.84 109.00 112.59 111.56 108.76 107.84 109.97 109.12 104 BP Annual Report and Accounts 2008 Consolidated financial statements of the BP group Group balance sheet At 31 December Non-current assets Property, plant and equipment Goodwill Intangible assets Investments in jointly controlled entities Investments in associates Other investments Fixed assets Loans Other receivables Derivative financial instruments Prepayments Defined benefit pension plan surpluses Current assets Loans Inventories Trade and other receivables Derivative financial instruments Prepayments Current tax receivable Cash and cash equivalents Assets classified as held for sale Total assets Current liabilities Trade and other payables Derivative financial instruments Accruals Finance debt Current tax payable Provisions Liabilities directly associated with the assets classified as held for sale Non-current liabilities Other payables Derivative financial instruments Accruals Finance debt Deferred tax liabilities Provisions Defined benefit pension plan and other post-retirement benefit plan deficits Total liabilities Net assets Equity Share capital Reserves BP shareholders’ equity Minority interest Total equity P D Sutherland Chairman Dr A B Hayward Group Chief Executive Note 2008 23 24 25 26 27 29 31 34 38 30 31 34 32 4 33 34 35 37 4 33 34 35 20 37 38 39 40 40 40 103,200 9,878 10,260 23,826 4,000 855 152,019 995 710 5,054 1,338 1,738 161,854 168 16,821 29,261 8,510 3,050 377 8,197 66,384 – 66,384 228,238 33,644 8,977 6,743 15,740 3,144 1,545 69,793 – 69,793 3,080 6,271 784 17,464 16,198 12,108 10,431 66,336 136,129 92,109 5,176 86,127 91,303 806 92,109 $ million 2007 97,989 11,006 6,652 18,113 4,579 1,830 140,169 999 968 3,741 1,083 8,914 155,874 165 26,554 38,020 6,321 3,589 705 3,562 78,916 1,286 80,202 236,076 43,152 6,405 6,640 15,394 3,282 2,195 77,068 163 77,231 1,251 5,002 959 15,651 19,215 12,900 9,215 64,193 141,424 94,652 5,237 88,453 93,690 962 94,652 105 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Consolidated financial statements of the BP group Group cash flow statement For the year ended 31 December Operating activities Profit before taxation Adjustments to reconcile profit before taxation to net cash provided by operating activities Exploration expenditure written off Depreciation, depletion and amortization Impairment and (gain) loss on sale of businesses and fixed assets Earnings from jointly controlled entities and associates Dividends received from jointly controlled entities and associates Interest receivable Interest received Finance costs Interest paid Net finance income relating to pensions and other post-retirement benefits Share-based payments Net operating charge for pensions and other post-retirement benefits, less contributions and benefit payments for unfunded plans Net charge for provisions, less payments (Increase) decrease in inventories (Increase) decrease in other current and non-current assets Increase (decrease) in other current and non-current liabilities Income taxes paid Net cash provided by operating activities Investing activities Capital expenditure Acquisitions, net of cash acquired Investment in jointly controlled entities Investment in associates Proceeds from disposal of fixed assets Proceeds from disposal of businesses, net of cash disposed Proceeds from loan repayments Other Net cash used in investing activities Financing activities Net repurchase of shares Proceeds from long-term financing Repayments of long-term financing Net increase (decrease) in short-term debt Dividends paid BP shareholders Minority interest Net cash used in financing activities Currency translation differences relating to cash and cash equivalents Increase (decrease) in cash and cash equivalents Cash and cash equivalents at beginning of year Cash and cash equivalents at end of year Note 2008 2007 $ million 2006 34,283 31,611 34,642 17 10 8,11 19 38 5 5 21 385 10,985 380 (3,821) 3,728 (407) 385 1,547 (1,291) (591) 459 (173) (298) 9,010 2,439 (6,101) (12,824) 38,095 (22,658) (395) (1,009) (81) 918 11 647 (200) (22,767) (2,567) 7,961 (3,821) (1,315) (10,342) (425) (10,509) (184) 4,635 3,562 8,197 347 10,579 (808) (3,832) 2,473 (489) 500 1,393 (1,363) (652) 420 (404) (92) (7,255) 5,210 (3,857) (9,072) 24,709 (17,830) (1,225) (428) (187) 1,749 2,518 192 374 (14,837) (7,113) 8,109 (3,192) 1,494 (8,106) (227) (9,035) 135 972 2,590 3,562 624 9,128 (3,165) (3,995) 4,495 (473) 500 986 (1,242) (470) 416 (261) 340 995 3,596 (4,211) (13,733) 28,172 (15,125) (229) (37) (570) 5,963 291 189 – (9,518) (15,151) 3,831 (3,655) 3,873 (7,686) (283) (19,071) 47 (370) 2,960 2,590 106 BP Annual Report and Accounts 2008 Consolidated financial statements of the BP group Group statement of recognized income and expense For the year ended 31 December Currency translation differences Exchange gain on translation of foreign operations transferred to gain or loss on sale of businesses and fixed assets Actuarial (loss) gain relating to pensions and other post-retirement benefits Available-for-sale investments marked to market Available-for-sale investments – recycled to the income statement Cash flow hedges marked to market Cash flow hedges – recycled to the income statement Cash flow hedges – recycled to the balance sheet Tax on currency translation differences Tax on actuarial (loss) gain relating to pensions and other post-retirement benefits Tax on available-for-sale investments Tax on cash flow hedges Tax on share-based payments Net (expense) income recognized directly in equity Profit for the year Total recognized income and expense for the year Attributable to BP shareholders Minority interest 2008 (4,362) – (8,430) (994) 526 (1,173) 45 (38) 100 2,602 50 194 (190) (11,670) 21,666 9,996 9,562 434 9,996 2007 1,887 (147) 1,717 200 (91) 155 (74) (40) 139 (427) (14) 26 213 3,544 21,169 24,713 24,365 348 24,713 $ million 2006 2,025 – 2,615 561 (695) 413 (93) (6) (201) (820) 108 (47) 26 3,886 22,286 26,172 25,837 335 26,172 s t n e m e t a t s l i a c n a n F i 107 BP Annual Report and Accounts 2008 Notes on financial statements 1. Significant accounting policies Authorization of financial statements and statement of compliance with International Financial Reporting Standards The consolidated financial statements of the BP group for the year ended 31 December 2008 were authorized for issue by the board of directors on 24 February 2009 and the balance sheet was signed on the board’s behalf by P D Sutherland and Dr A B Hayward. BP p.l.c. is a public limited company incorporated and domiciled in England and Wales. The company’s ordinary shares are traded on the London Stock Exchange. The consolidated financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB), IFRS as adopted by the European Union (EU) and in accordance with the provisions of the Companies Act 1985. IFRS as adopted by the EU differs in certain respects from IFRS as issued by the IASB, however, the differences have no impact on the group’s consolidated financial statements for the years presented. The significant accounting policies of the group are set out below. Basis of preparation The consolidated financial statements have been prepared in accordance with IFRS and International Financial Reporting Interpretations Committee (IFRIC) interpretations issued and effective for the year ended 31 December 2008, or issued and early adopted. Standards and interpretations adopted in the year had no significant impact on the financial statements. Subsequent to releasing our preliminary announcement of the fourth quarter 2008 results on 3 February 2009, an adjustment has been made to correct for a $560 million overstatement of the deferred tax liability in the balance sheet as at 31 December 2008 with a corresponding adjustment to the foreign currency translation reserve in equity. There was no impact on profit for the year. The accounting policies that follow have been consistently applied to all years presented. The consolidated financial statements are presented in US dollars and all values are rounded to the nearest million dollars ($ million), except where otherwise indicated. For further information regarding the key judgements and estimates made by management in applying the group’s accounting policies, refer to Critical accounting policies on pages 61 to 63, which forms part of these financial statements. Basis of consolidation The group financial statements consolidate the financial statements of BP p.l.c. and the entities it controls (its subsidiaries) drawn up to 31 December each year. Control comprises the power to govern the financial and operating policies of the investee so as to obtain benefit from its activities and is achieved through direct and indirect ownership of voting rights; currently exercisable or convertible potential voting rights; or by way of contractual agreement. Subsidiaries are consolidated from the date of their acquisition, being the date on which the group obtains control, and continue to be consolidated until the date that such control ceases. The financial statements of subsidiaries are prepared for the same reporting year as the parent company, using consistent accounting policies. All intercompany balances and transactions, including unrealized profits arising from intragroup transactions, have been eliminated in full. Unrealized losses are eliminated unless the transaction provides evidence of an impairment of the asset transferred. Minority interests represent the portion of profit or loss and net assets in subsidiaries that is not held by the group. 108 Interests in joint ventures A joint venture is a contractual arrangement whereby two or more parties (venturers) undertake an economic activity that is subject to joint control. Joint control exists only when the strategic financial and operating decisions relating to the activity require the unanimous consent of the venturers. A jointly controlled entity is a joint venture that involves the establishment of a company, partnership or other entity to engage in economic activity that the group jointly controls with its fellow venturers. The results, assets and liabilities of a jointly controlled entity are incorporated in these financial statements using the equity method of accounting. Under the equity method, the investment in a jointly controlled entity is carried in the balance sheet at cost, plus post- acquisition changes in the group’s share of net assets of the jointly controlled entity, less distributions received and less any impairment in value of the investment. Loans advanced to jointly controlled entities are also included in the investment on the group balance sheet. The group income statement reflects the group’s share of the results after tax of the jointly controlled entity. The group statement of recognized income and expense reflects the group’s share of any income and expense recognized by the jointly controlled entity outside profit and loss. Financial statements of jointly controlled entities are prepared for the same reporting year as the group. Where necessary, adjustments are made to those financial statements to bring the accounting policies used into line with those of the group. Unrealized gains on transactions between the group and its jointly controlled entities are eliminated to the extent of the group’s interest in the jointly controlled entities. Unrealized losses are also eliminated unless the transaction provides evidence of an impairment of the asset transferred. The group assesses investments in jointly controlled entities for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. If any such indication of impairment exists, the carrying amount of the investment is compared with its recoverable amount, being the higher of its fair value less costs to sell and value in use. Where the carrying amount exceeds the recoverable amount, the investment is written down to its recoverable amount. The group ceases to use the equity method of accounting on the date from which it no longer has joint control or significant influence over the joint venture, or when the interest becomes held for sale. Certain of the group’s activities, particularly in the Exploration and Production segment, are conducted through joint ventures where the venturers have a direct ownership interest in and jointly control the assets of the venture. The income, expenses, assets and liabilities of these jointly controlled assets are included in the consolidated financial statements in proportion to the group’s interest. Interests in associates An associate is an entity over which the group is in a position to exercise significant influence through participation in the financial and operating policy decisions of the investee, but that is not a subsidiary or a jointly controlled entity. The results, assets and liabilities of an associate are incorporated in these financial statements using the equity method of accounting as described above for jointly controlled entities. BP Annual Report and Accounts 2008 Notes on financial statements 1. Significant accounting policies continued Foreign currency translation Functional currency is the currency of the primary economic environment in which an entity operates and is normally the currency in which the entity primarily generates and expends cash. In individual companies, transactions in foreign currencies are initially recorded in the functional currency by applying the rate of exchange ruling at the date of the transaction. Monetary assets and liabilities denominated in foreign currencies are retranslated into the functional currency at the rate of exchange ruling at the balance sheet date. Any resulting exchange differences are included in the income statement. Non-monetary assets and liabilities that are measured at historical cost and denominated in a foreign currency are translated into the functional currency using the rates of exchange as at the dates of the initial transactions. Non-monetary assets and liabilities measured at fair value in a foreign currency are translated into the functional currency using the rate of exchange at the date the fair value was determined. Impairment is determined by assessing the recoverable amount of the cash-generating unit to which the goodwill relates. Where the recoverable amount of the cash-generating unit is less than the carrying amount, an impairment loss is recognized. Goodwill arising on business combinations prior to 1 January 2003 is stated at the previous carrying amount under UK generally accepted accounting practice. Goodwill may also arise upon investments in jointly controlled entities and associates, being the surplus of the cost of investment over the group’s share of the net fair value of the identifiable assets. Such goodwill is recorded within investments in jointly controlled entities and associates, and any impairment of the goodwill is included within the earnings from jointly controlled entities and associates. Non-current assets held for sale Non-current assets and disposal groups classified as held for sale are measured at the lower of carrying amount and fair value less costs to sell. In the consolidated financial statements, the assets and liabilities Non-current assets and disposal groups are classified as held for sale if their carrying amounts will be recovered through a sale transaction rather than through continuing use. This condition is regarded as met only when the sale is highly probable and the asset or disposal group is available for immediate sale in its present condition. Management must be committed to the sale, which should be expected to qualify for recognition as a completed sale within one year from the date of classification. Property, plant and equipment and intangible assets once classified as held for sale are not depreciated. Intangible assets Intangible assets, other than goodwill, include expenditure on the exploration for and evaluation of oil and natural gas resources, computer software, patents, licences and trademarks and are stated at the amount initially recognized, less accumulated amortization and accumulated impairment losses. Intangible assets acquired separately from a business are carried initially at cost. The initial cost is the aggregate amount paid and the fair value of any other consideration given to acquire the asset. An intangible asset acquired as part of a business combination is measured at fair value at the date of acquisition and is recognized separately from goodwill if the asset is separable or arises from contractual or other legal rights and its fair value can be measured reliably. Intangible assets with a finite life are amortized on a straight-line basis over their expected useful lives. For patents, licences and trademarks, expected useful life is the shorter of the duration of the legal agreement and economic useful life, which can range from three to 15 years. Computer software costs have a useful life of three to five years. The expected useful lives of assets are reviewed on an annual basis and, if necessary, changes in useful lives are accounted for prospectively. The carrying value of intangible assets is reviewed for impairment whenever events or changes in circumstances indicate the carrying value may not be recoverable. of non-US dollar functional currency subsidiaries, jointly controlled entities and associates, including related goodwill, are translated into US dollars at the rate of exchange ruling at the balance sheet date. The results and cash flows of non-US dollar functional currency subsidiaries, jointly controlled entities and associates are translated into US dollars using average rates of exchange. Exchange adjustments arising when the opening net assets and the profits for the year retained by non-US dollar functional currency subsidiaries, jointly controlled entities and associates are translated into US dollars are taken to a separate component of equity and reported in the statement of recognized income and expense. Exchange gains and losses arising on long-term intragroup foreign currency borrowings used to finance the group’s non-US dollar investments are also taken to equity. On disposal of a non-US dollar functional currency subsidiary, jointly controlled entity or associate, the deferred cumulative amount recognized in equity relating to that particular non-US dollar operation is recognized in the income statement. Business combinations and goodwill Business combinations are accounted for using the purchase method of accounting. The cost of an acquisition is measured as the cash paid and the fair value of other assets given, equity instruments issued and liabilities incurred or assumed at the date of exchange, plus costs directly attributable to the acquisition. The acquired identifiable assets, liabilities and contingent liabilities are measured at their fair values at the date of acquisition. Any excess of the cost of acquisition over the net fair value of the identifiable assets, liabilities and contingent liabilities acquired is recognized as goodwill. Any deficiency of the cost of acquisition below the fair values of the identifiable net assets acquired (i.e. discount on acquisition) is credited to the income statement in the period of acquisition. Where the group does not acquire 100% ownership of the acquired company, the interest of minority shareholders is stated at the minority’s proportion of the fair values of the assets and liabilities recognized. Subsequently, any losses applicable to the minority shareholders in excess of the minority interest on the group balance sheet are allocated against the interests of the parent. At the acquisition date, any goodwill acquired is allocated to each of the cash-generating units expected to benefit from the combination’s synergies. For this purpose, cash-generating units are set at one level below a business segment. Following initial recognition, goodwill is measured at cost less any accumulated impairment losses. Goodwill is reviewed for impairment annually or more frequently if events or changes in circumstances indicate that the carrying value may be impaired. 109 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 1. Significant accounting policies continued Oil and natural gas exploration and development expenditure Oil and natural gas exploration and development expenditure is accounted for using the successful efforts method of accounting. Licence and property acquisition costs Exploration licence and leasehold property acquisition costs are capitalized within intangible assets and are reviewed at each reporting date to confirm that there is no indication that the carrying amount exceeds the recoverable amount. This review includes confirming that exploration drilling is still under way or firmly planned or that it has been determined, or work is under way to determine, that the discovery is economically viable based on a range of technical and commercial considerations and sufficient progress is being made on establishing development plans and timing. If no future activity is planned, the remaining balance of the licence and property acquisition costs is written off. Lower value licences are pooled and amortized on a straight-line basis over the estimated period of exploration. Upon recognition of proved reserves and internal approval for development, the relevant expenditure is transferred to property, plant and equipment. Exploration expenditure Geological and geophysical exploration costs are charged against income as incurred. Costs directly associated with an exploration well are initially capitalized as an intangible asset until the drilling of the well is complete and the results have been evaluated. These costs include employee remuneration, materials and fuel used, rig costs, delay rentals and payments made to contractors. If hydrocarbons are not found, the exploration expenditure is written off as a dry hole. If hydrocarbons are found and, subject to further appraisal activity, which may include the drilling of further wells (exploration or exploratory-type stratigraphic test wells), are likely to be capable of commercial development, the costs continue to be carried as an asset. All such carried costs are subject to technical, commercial and management review at least once a year to confirm the continued intent to develop or otherwise extract value from the discovery. When this is no longer the case, the costs are written off. When proved reserves of oil and natural gas are determined and development is sanctioned, the relevant expenditure is transferred to property, plant and equipment. Development expenditure Expenditure on the construction, installation or completion of infrastructure facilities such as platforms, pipelines and the drilling of development wells, including unsuccessful development or delineation wells, is capitalized within property, plant and equipment and is depreciated from the commencement of production as described below in the accounting policy for Property, plant and equipment. Property, plant and equipment Property, plant and equipment is stated at cost, less accumulated depreciation and accumulated impairment losses. The initial cost of an asset comprises its purchase price or construction cost, any costs directly attributable to bringing the asset into operation, the initial estimate of any decommissioning obligation, if any, and, for qualifying assets, borrowing costs. The purchase price or construction cost is the aggregate amount paid and the fair value of any other consideration given to acquire the asset. The capitalized value of a finance lease is also included within property, plant and equipment. 110 Exchanges of assets are measured at fair value unless the exchange transaction lacks commercial substance or the fair value of neither the asset received nor the asset given up is reliably measurable. The cost of the acquired asset is measured at the fair value of the asset given up, unless the fair value of the asset received is more clearly evident. Where fair value is not used, the cost of the acquired asset is measured at the carrying amount of the asset given up. The gain or loss on derecognition of the asset given up is recognized in profit or loss. Expenditure on major maintenance refits or repairs comprises the cost of replacement assets or parts of assets, inspection costs and overhaul costs. Where an asset or part of an asset that was separately depreciated is replaced and it is probable that future economic benefits associated with the item will flow to the group, the expenditure is capitalized and the carrying amount of the replaced asset is derecognized. Inspection costs associated with major maintenance programmes are capitalized and amortized over the period to the next inspection. Overhaul costs for major maintenance programmes are expensed as incurred. All other maintenance costs are expensed as incurred. Oil and natural gas properties, including related pipelines, are depreciated using a unit-of-production method. The cost of producing wells is amortized over proved developed reserves. Licence acquisition, field development and future decommissioning costs are amortized over total proved reserves. The unit-of-production rate for the amortization of field development costs takes into account expenditures incurred to date, together with approved future development expenditure required to develop reserves. Other property, plant and equipment is depreciated on a straight- line basis over its expected useful life. The useful lives of the group’s other property, plant and equipment are as follows: Land improvements Buildings Refineries Petrochemicals plants Pipelines Service stations Office equipment Fixtures and fittings 15 to 25 years 20 to 50 years 20 to 30 years 20 to 30 years 10 to 50 years 15 years 3 to 7 years 5 to 15 years The expected useful lives of property, plant and equipment are reviewed on an annual basis and, if necessary, changes in useful lives are accounted for prospectively. The carrying value of property, plant and equipment is reviewed for impairment whenever events or changes in circumstances indicate the carrying value may not be recoverable. An item of property, plant and equipment is derecognized upon disposal or when no future economic benefits are expected to arise from the continued use of the asset. Any gain or loss arising on derecognition of the asset (calculated as the difference between the net disposal proceeds and the carrying amount of the item) is included in the income statement in the period the item is derecognized. BP Annual Report and Accounts 2008 Notes on financial statements 1. Significant accounting policies continued Impairment of intangible assets and property, plant and equipment The group assesses assets or groups of assets for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable, for example, low prices or margins for an extended period or for oil and gas assets significant downward revisions of estimated volumes or increases in estimated future development expenditure. If any such indication of impairment exists, the group makes an estimate of its recoverable amount. Individual assets are grouped for impairment assessment purposes at the lowest level at which there are identifiable cash flows that are largely independent of the cash flows of other groups of assets. An asset group’s recoverable amount is the higher of its fair value less costs to sell and its value in use. Where the carrying amount of an asset group exceeds its recoverable amount, the asset group is considered impaired and is written down to its recoverable amount. In assessing value in use, the estimated future cash flows are adjusted for the risks specific to the asset group and are discounted to their present value using a pre-tax discount rate that reflects current market assessments of the time value of money. An assessment is made at each reporting date as to whether there is any indication that previously recognized impairment losses may no longer exist or may have decreased. If such indication exists, the recoverable amount is estimated. A previously recognized impairment loss is reversed only if there has been a change in the estimates used to determine the asset’s recoverable amount since the last impairment loss was recognized. If that is the case, the carrying amount of the asset is increased to its recoverable amount. That increased amount cannot exceed the carrying amount that would have been determined, net of depreciation, had no impairment loss been recognized for the asset in prior years. Such reversal is recognized in profit or loss. After such a reversal, the depreciation charge is adjusted in future periods to allocate the asset’s revised carrying amount, less any residual value, on a systematic basis over its remaining useful life. Financial assets Financial assets are classified as loans and receivables; available-for-sale financial assets; financial assets at fair value through profit or loss; or as derivatives designated as hedging instruments in an effective hedge, as appropriate. Financial assets include cash and cash equivalents, trade receivables, other receivables, loans, other investments, and derivative financial instruments. The group determines the classification of its financial assets at initial recognition. Financial assets are recognized initially at fair value, normally being the transaction price plus, in the case of financial assets not at fair value through profit or loss, directly attributable transaction costs. The subsequent measurement of financial assets depends on their classification, as follows: Loans and receivables Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. Such assets are carried at amortized cost using the effective interest method if the time value of money is significant. Gains and losses are recognized in income when the loans and receivables are derecognized or impaired, as well as through the amortization process. This category of financial assets includes trade and other receivables. Available-for-sale financial assets Available-for-sale financial assets are those non-derivative financial assets that are not classified as loans and receivables. After initial recognition, available-for-sale financial assets are measured at fair value, with gains or losses recognized as a separate component of equity until the investment is derecognized or impaired. The fair value of quoted investments is determined by reference to bid prices at the close of business on the balance sheet date. Where there is no active market, fair value is determined using valuation techniques. Where fair value cannot be reliably measured, assets are carried at cost. Financial assets at fair value through profit or loss Derivatives, other than those designated as effective hedging instruments, are classified as held for trading and are included in this category. These assets are carried on the balance sheet at fair value with gains or losses recognized in the income statement. Derivatives designated as hedging instruments in an effective hedge Such derivatives are carried on the balance sheet at fair value. The treatment of gains and losses arising from revaluation is described below in the accounting policy for Derivative financial instruments and hedging activities. Impairment of financial assets The group assesses at each balance sheet date whether a financial asset or group of financial assets is impaired. Loans and receivables If there is objective evidence that an impairment loss on loans and receivables carried at amortized cost has been incurred, the amount of the loss is measured as the difference between the asset’s carrying amount and the present value of estimated future cash flows discounted at the financial asset’s original effective interest rate. The carrying amount of the asset is reduced, with the amount of the loss recognized in profit or loss. Available-for-sale financial assets If an available-for-sale financial asset is impaired, the cumulative gain or loss previously recognized in equity is transferred to the income statement. If there is objective evidence that an impairment loss on an unquoted equity instrument that is carried at cost has been incurred, the amount of the loss is measured as the difference between the asset’s carrying amount and the present value of estimated future cash flows discounted at the current market rate of return for a similar financial asset. Inventories Inventories, other than inventory held for trading purposes, are stated at the lower of cost and net realizable value. Cost is determined by the first-in first-out method and comprises direct purchase costs, cost of production, transportation and manufacturing expenses. Net realizable value is determined by reference to prices existing at the balance sheet date. Inventories held for trading purposes are stated at fair value less costs to sell and any changes in net realizable value are recognized in the income statement. Supplies are valued at cost to the group mainly using the average method or net realizable value, whichever is the lower. 111 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 1. Significant accounting policies continued Financial liabilities Financial liabilities are classified as financial liabilities at fair value through profit or loss; derivatives designated as hedging instruments in an effective hedge; or as financial liabilities measured at amortized cost, as appropriate. Financial liabilities include trade and other payables, accruals, finance debt and derivative financial instruments. The group determines the classification of its financial liabilities at initial recognition. The measurement of financial liabilities depends on their classification, as follows: Financial liabilities at fair value through profit or loss Derivatives, other than those designated as effective hedging instruments, are classified as held for trading and are included in this category. These liabilities are carried on the balance sheet at fair value with gains or losses recognized in the income statement. Derivatives designated as hedging instruments in an effective hedge Such derivatives are carried on the balance sheet at fair value, the treatment of gains and losses arising from revaluation are described below in the accounting policy for Derivative financial instruments and hedging activities. Financial liabilities measured at amortized cost All other financial liabilities are initially recognized at fair value. For interest-bearing loans and borrowings this is the fair value of the proceeds received net of issue costs associated with the borrowing. Contracts to buy or sell a non-financial item that can be settled net in cash or another financial instrument, or by exchanging financial instruments, as if the contracts were financial instruments, with the exception of contracts that were entered into and continue to be held for the purpose of the receipt or delivery of a non-financial item in accordance with the group’s expected purchase, sale or usage requirements, are accounted for as financial instruments. Gains or losses arising from changes in the fair value of derivatives that are not designated as effective hedging instruments are recognized in the income statement. For the purpose of hedge accounting, hedges are classified as: • Fair value hedges when hedging exposure to changes in the fair value of a recognized asset or liability. • Cash flow hedges when hedging exposure to variability in cash flows that is either attributable to a particular risk associated with a recognized asset or liability or a highly probable forecast transaction. • Hedges of a net investment in a foreign operation. At the inception of a hedge relationship the group formally designates and documents the hedge relationship for which the group wishes to claim hedge accounting, together with the risk management objective and strategy for undertaking the hedge. The documentation includes identification of the hedging instrument, the hedged item or transaction, the nature of the risk being hedged, and how the entity will assess the hedging instrument effectiveness in offsetting the exposure to changes in the hedged item’s fair value or cash flows attributable to the hedged item. Such hedges are expected at inception to be highly effective in achieving offsetting changes in fair value or cash flows. Hedges meeting the criteria for hedge accounting are accounted After initial recognition, other financial liabilities are subsequently for as follows: measured at amortized cost using the effective interest method. Amortized cost is calculated by taking into account any issue costs, and any discount or premium on settlement. Gains and losses arising on the repurchase, settlement or cancellation of liabilities are recognized respectively in interest and other revenues and finance costs. This category of financial liabilities includes trade and other payables and finance debt. Leases Finance leases, which transfer to the group substantially all the risks and benefits incidental to ownership of the leased item, are capitalized at the commencement of the lease term at the fair value of the leased property or, if lower, at the present value of the minimum lease payments. Finance charges are allocated to each period so as to achieve a constant rate of interest on the remaining balance of the liability and are charged directly against income. Capitalized leased assets are depreciated over the shorter of the estimated useful life of the asset or the lease term. Operating lease payments are recognized as an expense in the income statement on a straight-line basis over the lease term. For both finance and operating leases, contingent rents are recognized in the income statement in the period in which they are incurred. Derivative financial instruments and hedging activities The group uses derivative financial instruments to manage certain exposures to fluctuations in foreign currency exchange rates, interest rates and commodity prices as well as for trading purposes. Such derivative financial instruments are initially recognized at fair value on the date on which a derivative contract is entered into and are subsequently remeasured at fair value. Derivatives are carried as assets when the fair value is positive and as liabilities when the fair value is negative. Fair value hedges The change in fair value of a hedging derivative is recognized in profit or loss. The change in the fair value of the hedged item attributable to the risk being hedged is recorded as part of the carrying value of the hedged item and is also recognized in profit or loss. The group applies fair value hedge accounting for hedging fixed interest rate risk on borrowings. The gain or loss relating to the effective portion of the interest rate swap is recognized in the income statement within finance costs, offsetting the amortization of the interest on the underlying borrowings. If the criteria for hedge accounting are no longer met, or if the group revokes the designation, the adjustment to the carrying amount of a hedged item for which the effective interest rate method is used is amortized to profit or loss over the period to maturity. Cash flow hedges For cash flow hedges, the effective portion of the gain or loss on the hedging instrument is recognized directly in equity, while the ineffective portion is recognized in profit or loss. Amounts taken to equity are transferred to the income statement when the hedged transaction affects profit or loss. The gain or loss relating to the effective portion of interest rate swaps hedging variable rate borrowings is recognized in the income statement within finance costs. Where the hedged item is the cost of a non-financial asset or liability, such as a forecast transaction for the purchase of property, plant and equipment, the amounts taken to equity are transferred to the initial carrying amount of the non-financial asset or liability. If the hedging instrument expires or is sold, terminated or exercised without replacement or rollover, or if its designation as a hedge is revoked, amounts previously recognized in equity remain in equity until the forecast transaction occurs and are transferred to the income statement or to the initial carrying amount of a non-financial asset or liability as above. If a forecast transaction is no longer expected to occur, amounts previously recognized in equity are transferred to profit or loss. 112 BP Annual Report and Accounts 2008 Notes on financial statements 1. Significant accounting policies continued Hedges of a net investment in a foreign operation For hedges of a net investment in a foreign operation, the effective portion of the gain or loss on the hedging instrument is recognized directly in equity, while the ineffective portion is recognized in profit or loss. Amounts taken to equity are transferred to the income statement when the foreign operation is sold or partially disposed. Embedded derivatives Derivatives embedded in other financial instruments or other host contracts are treated as separate derivatives when their risks and characteristics are not closely related to those of the host contract. Contracts are assessed for embedded derivatives when the group becomes a party to them, including at the date of a business combination. Embedded derivatives are measured at fair value at each balance sheet date. Any gains or losses arising from changes in fair value are taken directly to profit or loss. Provisions and contingencies Provisions are recognized when the group has a present obligation (legal or constructive) as a result of a past event, it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation and a reliable estimate can be made of the amount of the obligation. Where appropriate, the future cash flow estimates are adjusted to reflect risks specific to the liability. If the effect of the time value of money is material, provisions are determined by discounting the expected future cash flows at a pre-tax rate that reflects current market assessments of the time value of money. Where discounting is used, the increase in the provision due to the passage of time is recognized within finance costs. A contingent liability is disclosed where the existence of an obligation will only be confirmed by future events or where the amount of the obligation cannot be measured reliably. Contingent assets are not recognized, but are disclosed where an inflow of economic benefits is probable. Decommissioning Liabilities for decommissioning costs are recognized when the group has an obligation to dismantle and remove a facility or an item of plant and to restore the site on which it is located, and when a reliable estimate of that liability can be made. Where an obligation exists for a new facility, such as oil and natural gas production or transportation facilities, this will be on construction or installation. An obligation for decommissioning may also crystallize during the period of operation of a facility through a change in legislation or through a decision to terminate operations. The amount recognized is the present value of the estimated future expenditure determined in accordance with local conditions and requirements. A corresponding item of property, plant and equipment of an amount equivalent to the provision is also created. This is subsequently depreciated as part of the asset. Other than the unwinding discount on the provision, any change in the present value of the estimated expenditure is reflected as an adjustment to the provision and the corresponding item of property, plant and equipment. Environmental expenditures and liabilities Environmental expenditures that relate to current or future revenues are expensed or capitalized as appropriate. Expenditures that relate to an existing condition caused by past operations and do not contribute to current or future earnings are expensed. Liabilities for environmental costs are recognized when a clean-up is probable and the associated costs can be reliably estimated. Generally, the timing of recognition of these provisions coincides with the commitment to a formal plan of action or, if earlier, on divestment or on closure of inactive sites. The amount recognized is the best estimate of the expenditure required. Where the liability will not be settled for a number of years, the amount recognized is the present value of the estimated future expenditure. Employee benefits Wages, salaries, bonuses, social security contributions, paid annual leave and sick leave are accrued in the period in which the associated services are rendered by employees of the group. Deferred bonus arrangements that have a vesting date more than 12 months after the period end are valued on an actuarial basis using the projected unit credit method and amortized on a straight-line basis over the service period until the award vests. The accounting policy for pensions and other post-retirement benefits is described below. Share-based payments Equity-settled transactions The cost of equity-settled transactions with employees is measured by reference to the fair value at the date at which equity instruments are granted and is recognized as an expense over the vesting period, which ends on the date on which the relevant employees become fully entitled to the award. Fair value is determined by using an appropriate valuation model. In valuing equity-settled transactions, no account is taken of any vesting conditions, other than conditions linked to the price of the shares of the company (market conditions). No expense is recognized for awards that do not ultimately vest, except for awards where vesting is conditional upon a market condition, which are treated as vesting irrespective of whether or not the market condition is satisfied, provided that all other performance conditions are satisfied. At each balance sheet date before vesting, the cumulative expense is calculated, representing the extent to which the vesting period has expired and management’s best estimate of the achievement or otherwise of non-market conditions and the number of equity instruments that will ultimately vest or, in the case of an instrument subject to a market condition, be treated as vesting as described above. The movement in cumulative expense since the previous balance sheet date is recognized in the income statement, with a corresponding entry in equity. Where the terms of an equity-settled award are modified or a new award is designated as replacing a cancelled or settled award, the cost based on the original award terms continues to be recognized over the original vesting period. In addition, an expense is recognized over the remainder of the new vesting period for the incremental fair value of any modification, based on the difference between the fair value of the original award and the fair value of the modified award, both as measured on the date of the modification. No reduction is recognized if this difference is negative. Where an equity-settled award is cancelled, it is treated as if it had vested on the date of cancellation and any cost not yet recognized in the income statement for the award is expensed immediately. Any compensation paid up to the fair value of the award at the cancellation or settlement date is deducted from equity, with any excess over fair value being treated as an expense in the income statement. 113 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 1. Significant accounting policies continued Cash-settled transactions The cost of cash-settled transactions is measured at fair value and recognized as an expense over the vesting period, with a corresponding liability recognized on the balance sheet. Pensions and other post-retirement benefits The cost of providing benefits under the defined benefit plans is determined separately for each plan using the projected unit credit method, which attributes entitlement to benefits to the current period (to determine current service cost) and to the current and prior periods (to determine the present value of the defined benefit obligation). Past service costs are recognized immediately when the company becomes committed to a change in pension plan design. When a settlement (eliminating all obligations for benefits already accrued) or a curtailment (reducing future obligations as a result of a material reduction in the scheme membership or a reduction in future entitlement) occurs, the obligation and related plan assets are remeasured using current actuarial assumptions and the resultant gain or loss is recognized in the income statement during the period in which the settlement or curtailment occurs. Deferred tax liabilities are recognized for all taxable temporary differences: • Except where the deferred tax liability arises on goodwill that is not tax deductible or the initial recognition of an asset or liability in a transaction that is not a business combination and, at the time of the transaction, affects neither the accounting profit nor taxable profit or loss. • In respect of taxable temporary differences associated with investments in subsidiaries, jointly controlled entities and associates, except where the group is able to control the timing of the reversal of the temporary differences and it is probable that the temporary differences will not reverse in the foreseeable future. Deferred tax assets are recognized for all deductible temporary differences, carry-forward of unused tax assets and unused tax losses, to the extent that it is probable that taxable profit will be available against which the deductible temporary differences and the carry-forward of unused tax assets and unused tax losses can be utilized: • Except where the deferred income tax asset relating to the deductible temporary difference arises from the initial recognition of an asset or liability in a transaction that is not a business combination and, at the time of the transaction, affects neither the accounting profit nor taxable profit or loss. The interest element of the defined benefit cost represents the • In respect of deductible temporary differences associated with change in present value of scheme obligations resulting from the passage of time, and is determined by applying the discount rate to the opening present value of the benefit obligation, taking into account material changes in the obligation during the year. The expected return on plan assets is based on an assessment made at the beginning of the year of long-term market returns on scheme assets, adjusted for the effect on the fair value of plan assets of contributions received and benefits paid during the year. The difference between the expected return on plan assets and the interest cost is recognized in the income statement as other finance income or expense. Actuarial gains and losses are recognized in full in the group statement of recognized income and expense in the period in which they occur. investments in subsidiaries, jointly controlled entities and associates, deferred tax assets are only recognized to the extent that it is probable that the temporary differences will reverse in the foreseeable future and taxable profit will be available against which the temporary differences can be utilized. The carrying amount of deferred tax assets is reviewed at each balance sheet date and reduced to the extent that it is no longer probable that sufficient taxable profit will be available to allow all or part of the deferred income tax asset to be utilized. Deferred tax assets and liabilities are measured at the tax rates that are expected to apply to the year when the asset is realized or the liability is settled, based on tax rates (and tax laws) that have been enacted or substantively enacted at the balance sheet date. The defined benefit pension plan surplus or deficit in the balance Tax relating to items recognized directly in equity is recognized in sheet comprises the total for each plan of the present value of the defined benefit obligation (using a discount rate based on high quality corporate bonds), less the fair value of plan assets out of which the obligations are to be settled directly. Fair value is based on market price information and, in the case of quoted securities, is the published bid price. Contributions to defined contribution schemes are recognized in the income statement in the period in which they become payable. Corporate taxes Income tax expense represents the sum of the tax currently payable and deferred tax. Interest and penalties relating to tax are also included in income tax expense. The tax currently payable is based on the taxable profits for the period. Taxable profit differs from net profit as reported in the income statement because it excludes items of income or expense that are taxable or deductible in other periods and it further excludes items that are never taxable or deductible. The group’s liability for current tax is calculated using tax rates that have been enacted or substantively enacted by the balance sheet date. Deferred tax is provided, using the liability method, on all temporary differences at the balance sheet date between the tax bases of assets and liabilities and their carrying amounts for financial reporting purposes. equity and not in the income statement. Customs duties and sales taxes Revenues, expenses and assets are recognized net of the amount of customs duties or sales tax except: • Where the customs duty or sales tax incurred on a purchase of goods and services is not recoverable from the taxation authority, in which case the customs duty or sales tax is recognized as part of the cost of acquisition of the asset or as part of the expense item as applicable. • Receivables and payables are stated with the amount of customs duty or sales tax included. The net amount of sales tax recoverable from, or payable to, the taxation authority is included as part of receivables or payables in the balance sheet. Own equity instruments The group’s holdings in its own equity instruments, including ordinary shares held by Employee Share Ownership Plans (ESOPs), are classified as ‘treasury shares’, or ‘own shares’ for the ESOPs, and are shown as deductions from shareholders’ equity at cost. Consideration received for the sale of such shares is also recognized in equity, with any difference between the proceeds from sale and the original cost being taken to the profit and loss account reserve. No gain or loss is recognized in the income statement on the purchase, sale, issue or cancellation of equity shares. Revenue Revenue arising from the sale of goods is recognized when the 114 BP Annual Report and Accounts 2008 Notes on financial statements 1. Significant accounting policies continued significant risks and rewards of ownership have passed to the buyer and it can be reliably measured. Revenue is measured at the fair value of the consideration received or receivable and represents amounts receivable for goods provided in the normal course of business, net of discounts, customs duties and sales taxes. Revenues associated with the sale of oil, natural gas, natural gas liquids, liquefied natural gas, petroleum and chemicals products and all other items are recognized when the title passes to the customer. Physical exchanges are reported net, as are sales and purchases made with a common counterparty, as part of an arrangement similar to a physical exchange. Similarly, where the group acts as agent on behalf of a third party to procure or market energy commodities, any associated fee income is recognized but no purchase or sale is recorded. Additionally, where forward sale and purchase contracts for oil, natural gas or power have been determined to be for trading purposes, the associated sales and purchases are reported net within sales and other operating revenues whether or not physical delivery has occurred. Generally, revenues from the production of oil and natural gas properties in which the group has an interest with joint venture partners are recognized on the basis of the group’s working interest in those properties (the entitlement method). Differences between the production sold and the group’s share of production are not significant. Interest income is recognized as the interest accrues (using the effective interest rate that is the rate that exactly discounts estimated future cash receipts through the expected life of the financial instrument) to the net carrying amount of the financial asset. Dividend income from investments is recognized when the shareholders’ right to receive the payment is established. Research Research costs are expensed as incurred. Finance costs Finance costs directly attributable to the acquisition, construction or production of qualifying assets, which are assets that necessarily take a substantial period of time to get ready for their intended use, are added to the cost of those assets, until such time as the assets are substantially ready for their intended use. All other finance costs are recognized in the income statement in the period in which they are incurred. Use of estimates The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities as well as the disclosure of contingent assets and liabilities at the balance sheet date and the reported amounts of revenues and expenses during the reporting period. Actual outcomes could differ from those estimates. Impact of new International Financial Reporting Standards Adopted for 2008 Standards and interpretations adopted in the year had no significant impact on the financial statements. Not yet adopted The following pronouncements from the IASB will become effective for future financial reporting periods and have not yet been adopted by the group. IFRS 8 ‘Operating Segments’ was issued in October 2006 and defines operating segments as components of an entity about which separate financial information is available and is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. The new standard sets out the required disclosures for operating segments and is effective for annual periods beginning on or after 1 January 2009. BP will adopt the new standard with effect from 1 January 2009 and expects no change to its segments that are separately reported but anticipates that its segmental analysis will be based on non-GAAP measures as used by the chief operating decision maker. There will be no effect on the group’s reported income or net assets. IFRS 8 has been adopted by the EU. In September 2007, the IASB issued Amendments to IAS 1 ‘Presentation of Financial Statements’ – A Revised Presentation, which requires separate presentation of owner and non-owner changes in equity by introducing the statement of comprehensive income. The statement of recognized income and expense will no longer be presented. Whenever there is a restatement or reclassification, an additional balance sheet, as at the beginning of the earliest period presented, will be required to be published. The revised standard is effective for annual periods beginning on or after 1 January 2009 and BP will adopt it from that date. There will be no effect on the group’s reported income or net assets. IAS 1 Revised has been adopted by the EU. In January 2008, the IASB issued a revised version of IFRS 3 ‘Business Combinations’. The revised standard still requires the purchase method of accounting to be applied to business combinations but will introduce some changes to existing accounting treatment. For example, contingent consideration is measured at fair value at the date of acquisition and subsequently remeasured to fair value with changes recognized in profit or loss. Goodwill may be calculated based on the parent’s share of net assets or it may include goodwill related to the minority interest. All transaction costs are expensed. The standard is applicable to business combinations occurring in accounting periods beginning on or after 1 July 2009 and BP plans to adopt it with effect from 1 January 2010. Assets and liabilities arising from business combinations occurring before the date of adoption by the group will not be restated and thus there will be no effect on the group’s reported income or net assets on adoption. The revised standard has not yet been adopted by the EU. Also in January 2008, the IASB issued an amended version of IAS 27 ‘Consolidated and Separate Financial Statements’. This requires the effects of all transactions with non-controlling interests to be recorded in equity if there is no change in control. Such transactions will no longer result in goodwill or gains or losses. When control is lost, any remaining interest in the entity is remeasured to fair value and a gain or loss recognized in profit or loss. The amendment is effective for annual periods beginning on or after 1 July 2009 and is to be applied retrospectively, with certain exceptions. BP plans to adopt the amendment with effect from 1 January 2010 and has not yet completed its evaluation of the effect of adoption. The revised standard has not yet been adopted by the EU. In addition, IFRIC 18 ‘Transfers of Assets from Customers’ was issued in January 2009 and is effective prospectively from 1 July 2009. BP has not yet completed its evaluation of the effect of adopting this interpretation. There are no other standards and interpretations in issue but not yet adopted that the directors anticipate will have a material effect on the reported income or net assets of the group. 115 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 2. Resegmentation With effect from 1 January 2008 the organizational structure of BP has been simplified into two business segments – Exploration and Production and Refining and Marketing. A separate business, Alternative Energy, handles BP’s low-carbon businesses and future growth options outside oil and gas, including solar, wind, gas-fired power, hydrogen, biofuels and coal conversion. As a result, and with effect from 1 January 2008: (cid:129) The Gas, Power and Renewables segment ceased to report separately. (cid:129) The natural gas liquids (NGLs), liquefied natural gas and gas and power marketing and trading businesses were transferred from the Gas, Power and Renewables segment to the Exploration and Production segment. (cid:129) The Alternative Energy business was transferred from the Gas, Power and Renewables segment to Other businesses and corporate. (cid:129) The Emerging Consumers Marketing Unit was transferred from Refining and Marketing to Alternative Energy. (cid:129) The Biofuels business was transferred from Refining and Marketing to Alternative Energy. (cid:129) The Shipping business was transferred from Refining and Marketing to Other businesses and corporate. As a result of the transfers identified above, Other businesses and corporate has been redefined. It now consists of the Alternative Energy business, Shipping, the group’s aluminium asset, Treasury (which includes interest income on the group’s cash and cash equivalents) and corporate activities worldwide. Comparative amounts have been restated to reflect the resegmentation, as shown below. By business – as reported Revenues Total revenues Less: sales between businesses Total third party revenues Segment results Profit (loss) before interest and tax Segment assets and liabilities Segment assets Segment liabilities By business – as restated Revenues Total revenues Less: sales between businesses Total third party revenues Segment results Profit (loss) before interest and tax Segment assets and liabilities Segment assets Segment liabilities By business – as reported Revenues Total revenues Less: sales between businesses Total third party revenues Segment results Exploration and Production Refining and Marketing Gas, Power and Renewables Other Consolidation adjustment and eliminations businesses and corporate $ million 2007 Total group 57,941 (38,803) 19,138 251,538 (2,024) 249,514 21,725 (2,436) 19,289 1,010 – 1,010 (43,263) 43,263 – 288,951 – 288,951 26,938 6,072 674 (1,128) (204) 32,352 108,874 (23,792) 95,691 (41,053) 19,889 (13,439) 17,188 (14,940) (6,271) 5,342 235,371 (87,882) 69,376 (32,083) 37,293 250,897 (1,914) 248,983 27,729 6,076 125,736 (37,741) 95,311 (41,409) – – – – – – 3,972 (1,297) 2,675 (35,294) 35,294 – 288,951 – 288,951 (1,233) (220) 32,352 20,595 (14,074) (6,271) 5,342 235,371 (87,882) Exploration and Production Refining and Marketing Gas, Power and Renewables Other Consolidation adjustment and eliminations businesses and corporate Total group Innovene operations $ million 2006 Total continuing operations 56,400 (36,171) 20,229 233,302 (4,076) 229,226 23,923 (4,019) 19,904 1,243 – 1,243 (44,266) 44,266 – 270,602 – 270,602 – – – 270,602 – 270,602 Profit (loss) before interest and tax 29,629 5,041 1,321 (1,069) 52 34,974 184 35,158 By business – as restated Revenues Total revenues Less: sales between businesses Total third party revenues Segment results 71,868 (32,608) 39,260 232,833 (3,935) 228,898 Profit (loss) before interest and tax 30,953 4,919 116 – – – – 3,703 (1,259) 2,444 (37,802) 37,802 – 270,602 – 270,602 – – – 270,602 – 270,602 (963) 65 34,974 184 35,158 BP Annual Report and Accounts 2008 Notes on financial statements 3. Acquisitions Acquisitions in 2008 BP made a number of acquisitions in 2008 for a total consideration of $403 million. These business combinations were in the Exploration and Production segment and Other businesses and corporate and the most significant was the acquisition of Whiting Clean Energy, a cogeneration power plant. Fair value adjustments have been made on a provisional basis to the acquired assets and liabilities. Goodwill of $1 million has been recognized on these acquisitions. Acquisitions in 2007 BP made a number of acquisitions in 2007 for a total consideration of $1,200 million. These business combinations were predominantly in the Refining and Marketing segment, the most significant of which was the acquisition of Chevron’s Netherlands manufacturing company, Texaco Raffiniderij Pernis B.V. The acquisition included Chevron’s 31% minority shareholding in Nerefco, its 31% shareholding in the 22.5 MW wind farm co-located at the refinery as well as a 22.8% shareholding in the TEAM joint venture terminal and shareholdings in two local pipelines linking the TEAM terminal to the refinery. Fair value adjustments were made to the acquired assets and liabilities. Goodwill of $270 million arose on these acquisitions. Acquisitions in 2006 BP made a number of acquisitions in 2006 for a total consideration of $256 million. All these business combinations were in Other businesses and corporate. Fair value adjustments were made to the acquired assets and liabilities and goodwill of $64 million arose on these acquisitions. 4. Non-current assets held for sale and discontinued operations Non-current assets held for sale In December 2007, BP signed a memorandum of understanding with Husky Energy Inc. to form an integrated North American oil sands business. The transaction was completed on 31 March 2008, with BP contributing its Toledo refinery to a US jointly controlled entity to which Husky contributed $250 million cash and a payable of $2,588 million. The Toledo refinery assets and associated liabilities were classified as a disposal group held for sale at 31 December 2007. No impairment loss was recognized at the time of reclassification of the Toledo disposal group as held for sale nor at 31 December 2007. For further information see Notes 5 and 26. The major classes of assets and liabilities of the Toledo disposal group, reported within the Refining and Marketing segment, classified as held for sale at 31 December 2007, are set out below. Assets Property, plant and equipment Goodwill Inventories Assets classified as held for sale Liabilities Current liabilities Liabilities directly associated with assets classified as held for sale $ million 2007 635 90 561 1,286 163 163 Discontinued operations The sale of Innovene, BP’s olefins, derivatives and refining group, to INEOS was completed on 16 December 2005. In 2006 a loss before taxation of $184 million was incurred which related to post-closing adjustments. These adjustments also reduced disposal proceeds by $34 million. Financial information for the Innovene operations after group eliminations is presented below. Loss recognized on the remeasurement to fair value less costs to sell and on disposal Loss before taxation from Innovene operations Tax (charge) credit on loss before loss recognized on remeasurement to fair value less costs to sell and on disposal on loss recognized on the remeasurement to fair value less costs to sell and on disposal Loss from Innovene operations Loss per share from Innovene operations – cents Basic Diluted Further information is contained in Note 5. $ million 2006 (184) (184) 166 (7) (25) (0.13) (0.12) 117 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 5. Disposals Proceeds from the sale of Innovene operations Proceeds from the sale of other businesses Proceeds from the sale of businesses Proceeds from disposal of fixed assets By business Exploration and Production Refining and Marketing Other businesses and corporate 2008 – 11 11 918 929 19 813 97 929 2007 – 2,518 2,518 1,749 4,267 1,280 2,953 34 4,267 $ million 2006 (34) 325 291 5,963 6,254 4,302 1,784 168 6,254 As part of the strategy to upgrade the quality of its asset portfolio, the group has an active programme to dispose of non-strategic assets. In the normal course of business in any particular year, the group may sell interests in exploration and production properties, service stations and pipeline interests as well as non-core businesses. The group may also dispose of other assets, such as refineries, when this meets strategic objectives. Cash received during the year from disposals amounted to $929 million (2007 $4.3 billion and 2006 $6.3 billion). The major transactions in 2008 were the disposal of our Toledo refinery to an entity which we jointly control in the US and our continued disposal of company-owned and company-operated retail sites in the US. The major transactions in 2007 were the disposals of our Coryton refinery, our exploration and production and gas infrastructure business in the Netherlands, our interest in non-core Permian assets in the US and our interest in the Entrada field in the Gulf of Mexico. The major transactions in 2006 were the disposals of our interests in the Gulf of Mexico Shelf and our interest in the Shenzi discovery in the Gulf of Mexico. The principal transactions for each business segment are described below. Exploration and Production The group divested interests in a number of oil and natural gas properties in all three years. There were no significant disposals in 2008. During 2007, the major transactions were the disposal of an exploration and production and gas infrastructure business in the Netherlands and the divestments of our interests in non-core Permian assets in the US and in the Entrada field in the Gulf of Mexico. We also sold our interests in a number of fields in Egypt, Canada and the US. During 2006, the major transactions were disposals of our interests in the Gulf of Mexico Shelf, in the Shenzi discovery in the Gulf of Mexico, in the Statfjord oil and gas field and in the Luva gas field in the North Sea. We also divested our interests in a number of onshore fields in South Louisiana, interests in fields in the North Sea, the Gulf of Suez and Venezuela, part of an interest in Colombia and our shareholding in Enagas, the Spanish gas transport grid operator. Refining and Marketing The churn of retail assets represents a significant element of the total in all three years and in particular, in 2008, our continued disposal of sites in the US. In addition, in 2008 we contributed our Toledo refinery to a US jointly controlled entity in an exchange transaction with Husky Energy and disposed of our interest in the Dixie Pipeline in the US, certain assets at our Acetyls plant in Hull, UK, and other interests in the UK and Europe. During 2007, we disposed of the Coryton refinery in the UK, our interest in the West Texas Pipeline in the US, our interest in the Samsung Petrochemical Company in South Korea and other interests in France, Brazil and Africa. During 2006, we disposed of our interests in Zhenhai Refining and Chemicals Company in China and in Eiffage, the French-based construction company. We also exited the retail market in the Czech Republic and disposed of our interests in a number of pipelines. 118 BP Annual Report and Accounts 2008 Notes on financial statements 5. Disposals continued Other businesses and corporate In 2008, the group disposed of miscellaneous non-core assets. There were no significant disposals in 2007. During 2006, the group disposed of miscellaneous non-core businesses and assets. Summarized financial information for the sale of businesses is shown below. The disposals comprise the following Non-current assets Current assets Non-current liabilities Current liabilities Total carrying amount of net assets disposed Recycling of foreign exchange on disposal Costs on disposal Profit (loss) on sale of businessesa Total consideration Fair value of interest received in a jointly controlled entity Consideration received (receivable)b Closing adjustments associated with the sale of Innovene Proceeds from the sale of businessesc 2008 2007 $ million 2006 759 485 – (134) 1,110 – 7 1,117 1,721 2,838 (2,838) 11 – 11 753 587 (64) (27) 1,249 (147) 22 1,124 1,384 2,508 – 10 – 2,518 143 169 (10) (70) 232 – – 232 167 399 – (74) (34) 291 aOf which $929 million gain has not been recognized in the income statement in 2008 as it represents an unrealized gain on the transfer of the Toledo refinery into a jointly controlled entity. bConsideration received from prior year disposals or not yet received from current year disposals. cNet of cash and cash equivalents disposed of nil (2007 $115 million and 2006 $2 million). s t n e m e t a t s l i a c n a n F i 119 BP Annual Report and Accounts 2008 Notes on financial statements 6. Segmental analysis The group’s primary format for segment reporting is business segments and the secondary format is geographical segments. The risks and returns of the group’s operations are primarily determined by the nature of the different activities that the group engages in, rather than the geographical location of these operations. This is reflected by the group’s organizational structure and internal financial reporting systems. In 2008, BP had two reportable operating segments: Exploration and Production and Refining and Marketing. Exploration and Production’s activities include oil and natural gas exploration, development and production (upstream activities), together with related pipeline, transportation and processing activities (midstream activities), as well as the marketing and trading of natural gas (including LNG), power and natural gas liquids (NGLs). The activities of Refining and Marketing include the supply and trading, refining, manufacturing, marketing and transportation of crude oil, petroleum and chemicals products and related services. The group is managed on an integrated basis. Other businesses and corporate comprises the Alternative Energy business, Shipping, the group’s aluminium asset, Treasury (which in the segmental analysis includes all of the group’s cash, cash equivalents and associated interest income), and corporate activities worldwide. The accounting policies of the operating segments are the same as the group’s accounting policies described in Note 1. Sales between segments are made at prices that approximate market prices, taking into account the volumes involved. Segment revenues and segment results include transactions between business segments. These transactions and any unrealized profits and losses are eliminated on consolidation, unless unrealized losses provide evidence of an impairment of the asset transferred. The group’s geographical segments are based on the location of the group’s assets. The UK and the US are significant countries of activity for the group; the other geographical segments are groupings of countries determined by geographical location. Sales to external customers are based on the location of the seller, which in most circumstances is not materially different from the location of the customer. Crude oil and LNG are commodities for which there is an international market and buyers and sellers can be widely separated geographically. The UK segment includes the UK-based international activities of Refining and Marketing. By business Sales and other operating revenues Segment sales and other operating revenues Less: sales between businesses Third party sales Equity-accounted earnings Interest and other revenues Total revenues Segment results Profit (loss) before interest and taxation Finance costs and net finance income relating to pensions and other post-retirement benefits Profit (loss) before taxation Taxation Profit (loss) for the year Assets and liabilities Segment assets Current tax receivable Total assets Includes Equity-accounted investments Segment liabilities Current tax payable Finance debt Deferred tax liabilities Total liabilities Other segment information Capital expenditure and acquisitions Goodwill and other intangible assets Property, plant and equipment Other Total Depreciation, depletion and amortization Impairment losses Impairment reversals Losses on sale of businesses and fixed assets Gains on sale of businesses and fixed assets 120 Exploration and Production Refining and Marketing Other Consolidation adjustment and eliminations businesses and corporate $ million 2008 Total group 86,170 (45,931) 40,239 3,565 167 43,971 320,039 (1,918) 318,121 131 288 318,540 4,634 (1,851) 2,783 125 281 3,189 (49,700) 49,700 – – – – 361,143 – 361,143 3,821 736 365,700 37,915 (1,884) (1,258) 466 35,239 – 37,915 – 37,915 – (1,884) – (1,884) – (1,258) – (1,258) (956) (490) (12,617) (13,107) (956) 34,283 (12,617) 21,666 136,665 – 136,665 75,329 – 75,329 19,079 – 19,079 (3,212) 377 (2,835) 227,861 377 228,238 20,131 6,622 1,073 – 27,826 (39,611) – – – (39,611) (28,668) – – – (28,668) (18,218) – – – (18,218) 2,914 (3,144) (33,204) (16,198) (49,632) (83,583) (3,144) (33,204) (16,198) (136,129) 4,940 14,117 3,170 22,227 8,440 1,186 155 18 34 145 4,417 2,072 6,634 2,208 159 – 297 1,258 89 959 791 1,839 337 227 – 1 61 – – – – – – – – – 5,174 19,493 6,033 30,700 10,985 1,572 155 316 1,353 BP Annual Report and Accounts 2008 Notes on financial statements 6. Segmental analysis continued By business Sales and other operating revenues Segment sales and other operating revenues Less: sales between businesses Third party sales Equity-accounted earnings Interest and other revenues Total revenues Segment results Profit (loss) before interest and taxation Finance costs and net finance income relating to pensions and other post-retirement benefits Profit (loss) before taxation Taxation Profit (loss) for the year Assets and liabilities Segment assets Current tax receivable Total assets Includes Exploration and Production Refining and Marketing Other businesses and corporate Consolidation adjustment and eliminations $ million 2007 Total group 65,740 (32,083) 33,657 3,199 437 37,293 250,221 (1,914) 248,307 542 134 248,983 3,698 (1,297) 2,401 91 183 2,675 (35,294) 35,294 – – – – 284,365 – 284,365 3,832 754 288,951 27,729 6,076 (1,233) (220) 32,352 – 27,729 – 27,729 – 6,076 – 6,076 125,736 – 125,736 95,311 – 95,311 – (1,233) – (1,233) 20,595 – 20,595 (741) (961) (10,442) (11,403) (741) 31,611 (10,442) 21,169 (6,271) 705 (5,566) 235,371 705 236,076 Equity-accounted investments 16,770 5,268 654 – 22,692 Segment liabilities Current tax payable Finance debt Deferred tax liabilities Total liabilities Other segment information Capital expenditure and acquisitions Goodwill and other intangible assets Property, plant and equipment Other Total Depreciation, depletion and amortization Impairment losses Impairment reversals Losses on sale of businesses and fixed assets Gains on sale of businesses and fixed assets (37,741) – – – (37,741) (41,409) – – – (41,409) (14,074) – – – (14,074) 5,342 (3,282) (31,045) (19,215) (48,200) (87,882) (3,282) (31,045) (19,215) (141,424) 2,245 11,539 423 14,207 7,856 292 237 42 954 581 4,474 440 5,495 2,421 1,186 – 313 1,464 27 874 38 939 302 83 – – 69 – – – – – – – – – 2,853 16,887 901 20,641 10,579 1,561 237 355 2,487 121 s t n e m e t a t s l i a c n a n F i $ million 2006 Total continuing operations 265,906 – 265,906 3,995 701 270,602 Exploration and Production Refining and Marketing Other businesses and corporate Consolidation adjustment and eliminations Total group Innovene operations 67,950 (32,608) 35,342 3,568 350 39,260 232,386 (3,935) 228,451 341 106 228,898 30,953 4,919 – 30,953 – 30,953 6,689 237 340 – 195 2,502 – 4,919 – 4,919 2,239 155 – – 228 1,109 3,372 (1,259) 2,113 86 245 2,444 (37,802) 37,802 – – – – 265,906 – 265,906 3,995 701 270,602 – – – – – – (963) – (963) – (963) 200 69 – 184 5 103 65 34,974 184 35,158 (516) (451) (12,172) (12,623) (516) 34,458 (12,172) 22,286 – – – – – – 9,128 461 340 184 428 3,714 – 184 (159) 25 – – – (184) – – (516) 34,642 (12,331) 22,311 9,128 461 340 – 428 3,714 BP Annual Report and Accounts 2008 Notes on financial statements 6. Segmental analysis continued By business Sales and other operating revenues Segment sales and other operating revenues Less: sales between businesses Third party sales Equity-accounted earnings Interest and other revenues Total revenues Segment results Profit (loss) before interest and taxation Finance costs and net finance income relating to pensions and other post-retirement benefits Profit (loss) before taxation Taxation Profit (loss) for the year Other segment information Depreciation, depletion and amortization Impairment losses Impairment reversals Loss on remeasurement to fair value less costs to sell and on disposal of Innovene operations Losses on sale of businesses and fixed assets Gains on sale of businesses and fixed assets 122 BP Annual Report and Accounts 2008 Notes on financial statements 6. Segmental analysis continued By geographical area Sales and other operating revenues Segment sales and other operating revenues Less: sales between areas Third party sales Equity-accounted earnings Interest and other revenues Total revenues Segment results Profit before interest and taxation Finance costs and net finance income relating to pensions and other post-retirement benefits Profit before taxation Taxation Profit for the year Assets and liabilities Segment assets Current tax receivable Total assets Includes UK Rest of Europe US Rest of World Consolidation adjustment and eliminations 150,133 (68,360) 81,773 (4) 55 81,824 93,303 (11,272) 82,031 74 226 82,331 130,142 (6,778) 123,364 (14) 193 123,543 105,911 (31,936) 73,975 3,765 262 78,002 5,808 1,541 7,831 20,059 (22) 5,786 (2,867) 2,919 (316) 1,225 (576) 649 (411) 7,420 (2,336) 5,084 (207) 19,852 (6,838) 13,014 – – – – – – – – – – – $ million 2008 Total 479,489 (118,346) 361,143 3,821 736 365,700 35,239 (956) 34,283 (12,617) 21,666 40,693 1 40,694 27,999 187 28,186 87,364 125 87,489 80,090 64 80,154 (8,285) – (8,285) 227,861 377 228,238 Equity-accounted investments 92 1,873 3,790 22,071 – 27,826 Segment liabilities Current tax payable Finance debt Deferred tax liabilities Total liabilities Other segment information Capital expenditure and acquisitions Goodwill and other intangible assets Property, plant and equipment Other Total Depreciation, depletion and amortization Exploration expense Impairment losses Impairment reversals Losses on sale of businesses and fixed assets Gains on sale of businesses and fixed assets (23,767) (438) (22,621) (2,031) (48,857) (14,319) (399) (201) (862) (15,781) (33,099) (881) (7,659) (8,916) (50,555) (20,683) (1,426) (2,723) (4,389) (29,221) 8,285 – – – 8,285 (83,583) (3,144) (33,204) (16,198) (136,129) 277 1,279 52 1,608 1,610 121 97 – 1 74 19 2,043 125 2,187 997 1 104 – 23 49 3,794 9,655 2,597 16,046 3,969 306 392 9 259 1,209 1,084 6,516 3,259 10,859 4,409 454 979 146 33 21 – – – – – – – – – – 5,174 19,493 6,033 30,700 10,985 882 1,572 155 316 1,353 123 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 6. Segmental analysis continued By geographical area Sales and other operating revenues Segment sales and other operating revenues Less: sales between areas Third party sales Equity-accounted earnings Interest and other revenues Total revenues Segment results Profit before interest and taxation Finance costs and net finance income relating to pensions and other post-retirement benefits Profit before taxation Taxation Profit for the year Assets and liabilities Segment assets Current tax receivable Total assets Includes UK Rest of Europe US Rest of World Consolidation adjustment and eliminations 109,800 (48,651) 61,149 1 222 61,372 78,366 (12,024) 66,342 55 78 66,475 105,120 (2,801) 102,319 144 142 102,605 74,462 (19,907) 54,555 3,632 312 58,499 4,613 4,164 7,439 16,136 (17) 4,596 (2,027) 2,569 (287) 3,877 (949) 2,928 (524) 6,915 (2,593) 4,322 87 16,223 (4,873) 11,350 – – – – – – – – – – – $ million 2007 Total 367,748 (83,383) 284,365 3,832 754 288,951 32,352 (741) 31,611 (10,442) 21,169 53,065 3 53,068 34,658 27 34,685 81,911 468 82,379 76,504 207 76,711 (10,767) – (10,767) 235,371 705 236,076 Equity-accounted investments 142 1,970 1,659 18,921 – 22,692 Segment liabilities Current tax payable Finance debt Deferred tax liabilities Total liabilities Other segment information Capital expenditure and acquisitions Goodwill and other intangible assets Property, plant and equipment Other Total Depreciation, depletion and amortization Exploration expense Impairment losses Impairment reversals Losses on sale of businesses and fixed assets Gains on sale of businesses and fixed assets (30,043) (963) (20,085) (3,397) (54,488) (18,985) (658) (200) (1,124) (20,967) (31,314) (104) (8,238) (10,656) (50,312) (18,307) (1,557) (2,522) (4,038) (26,424) 10,767 – – – 10,767 (87,882) (3,282) (31,045) (19,215) (141,424) 453 1,141 78 1,672 2,133 46 315 – 2 893 298 2,489 253 3,040 959 – 136 – 77 655 817 6,516 154 7,487 3,558 252 723 237 233 770 1,285 6,741 416 8,442 3,929 458 387 – 43 169 – – – – – – – – – – 2,853 16,887 901 20,641 10,579 756 1,561 237 355 2,487 124 BP Annual Report and Accounts 2008 Notes on financial statements 6. Segmental analysis continued By geographical area Sales and other operating revenues Segment sales and other operating revenues Less: sales between areas Third party sales Equity-accounted earnings Interest and other revenues Total revenues Segment results Profit before interest and taxation from continuing operations Finance costs and net finance income relating to pensions and other post-retirement benefits Profit before taxation from continuing operations Taxation Profit for the year from continuing operations Profit (loss) from Innovene operations Profit for the year Other segment information Depreciation, depletion and amortization Exploration expense Impairment losses Impairment reversals Loss on remeasurement to fair value less costs to sell and on disposal of Innovene operations Losses on sale of businesses and fixed assets Gains on sale of businesses and fixed assets $ million 2006 UK Rest of Europe US Rest of World Total 105,518 (50,942) 54,576 5 258 54,839 76,768 (14,821) 61,947 13 7 61,967 99,935 (5,032) 94,903 127 107 95,137 71,547 (17,067) 54,480 3,850 329 58,659 353,768 (87,862) 265,906 3,995 701 270,602 5,897 3,282 11,164 14,815 35,158 43 5,940 (3,158) 2,782 31 2,813 2,139 20 – 176 185 12 337 (262) 3,020 (1,176) 1,844 (76) 1,768 840 – 171 – 36 96 577 (331) 10,833 (3,553) 7,280 (2) 7,278 3,459 633 114 90 (16) 217 2,530 34 14,849 (4,444) 10,405 22 10,427 (516) 34,642 (12,331) 22,311 (25) 22,286 2,690 392 176 74 (21) 103 270 9,128 1,045 461 340 184 428 3,714 s t n e m e t a t s l i a c n a n F i 125 BP Annual Report and Accounts 2008 Notes on financial statements 7. Interest and other revenues Related to financial instruments Interest income from available-for-sale financial assets Dividend income from available-for-sale financial assets Interest income from loans and receivables Not related to financial instruments Interest from loans to equity-accounted entities Other interest Other income 8. Gains on sale of businesses and fixed assets Gains on sale of businesses Exploration and Production Refining and Marketing Other businesses and corporate Gains on sale of fixed assets Exploration and Production Refining and Marketing Other businesses and corporate 2008 2007 $ million 2006 32 37 163 232 115 59 330 504 736 2008 – 792 – 792 34 466 61 561 1,353 5 29 175 209 172 97 276 545 754 2007 527 850 7 1,384 427 614 62 1,103 2,487 13 32 186 231 176 62 232 470 701 $ million 2006 – 101 66 167 2,502 1,008 37 3,547 3,714 The principal transactions giving rise to these gains for each business segment are described below. Exploration and Production The group divested interests in a number of oil and natural gas properties in all three years. There were no significant divestments during 2008. The major divestments during 2007 that resulted in gains were the disposal of an exploration and production and gas infrastructure business in the Netherlands and the divestments of our interests in non-core Permian assets in the US and in the Entrada field in the Gulf of Mexico. The major divestments during 2006 that resulted in gains were the sales of our interest in the Shenzi discovery in the Gulf of Mexico in the US, interests in the North Sea and our shareholding in Enagas. Refining and Marketing During 2008, the major divestments that resulted in gains were the disposal of US retail assets, the contribution of Toledo refinery to a jointly controlled entity with Husky Energy and the disposal of our interest in the Dixie Pipeline. During 2007, the major transactions that resulted in gains were the divestment of Coryton refinery in the UK, the interest in the West Texas Pipeline in the US and the interest in the Samsung Petrochemical Company in South Korea. During 2006, the major transactions that resulted in gains were the divestment of the retail business in the Czech Republic and fixed assets including the shareholding in Zhenhai Refining and Chemicals Company in China, the shareholding in Eiffage, the French-based construction company, and pipeline assets. Other businesses and corporate There were no significant disposals in 2008 and 2007. During 2006, the group disposed of its ethylene oxide business. Additional information on the sale of businesses and fixed assets is given in Note 5. 126 BP Annual Report and Accounts 2008 Notes on financial statements 9. Production and similar taxes UK Overseas 10. Depreciation, depletion and amortization By business Exploration and Productiona UK Rest of Europe US Rest of World Refining and Marketing UKb Rest of Europe US Rest of World Other businesses and corporate UK Rest of Europe US Rest of World By geographical area UKb Rest of Europe US Rest of World 2008 370 6,156 6,526 2007 197 3,816 4,013 2008 2007 1,168 203 3,012 4,057 8,440 288 761 825 334 2,208 154 33 132 18 337 1,698 213 2,365 3,580 7,856 278 729 1,076 338 2,421 157 17 117 11 302 1,610 997 3,969 4,409 10,985 2,133 959 3,558 3,929 10,579 $ million 2006 260 3,361 3,621 $ million 2006 1,735 225 2,336 2,393 6,689 299 603 1,047 290 2,239 105 12 76 7 200 2,139 840 3,459 2,690 9,128 aAt the end of 2006, BP adopted the US Securities and Exchange Commission (SEC) rules for estimating oil and natural gas reserves instead of the UK accounting rules contained in the Statement of Recommended Practice ‘Accounting for Oil and Gas Exploration, Development, Production and Decommissioning Activities’ (UK SORP). This change in accounting estimate had a direct impact on the amount of depreciation, depletion and amortization (DD&A) charged in the income statement in respect of oil and natural gas properties which are depreciated on a unit-of-production basis as described in Note 1. The change in estimate was applied prospectively, with no restatement of prior periods’ results. The group’s actual DD&A charge for 2006 was $9,128 million, whereas the charge based on UK SORP reserves would have been $9,057 million, i.e. an increase of $71 million due to the change in reserves estimates that was used to calculate DD&A for the last three months of 2006. For 2007, it was estimated that the DD&A charge would have increased by approximately $400 million to $500 million as a result of the change. No estimate has been made in respect of 2008. Over the life of a field, this change has no overall effect on DD&A. The main differences between the UK SORP and SEC rules relate to the SEC requirement to use year-end prices and costs, the application of SEC interpretations of SEC regulations relating to the use of technology (mainly seismic) to estimate reserves in the reservoir away from wellbores and the reporting of fuel gas (i.e. gas used for fuel in operations) within proved reserves. Consequently, reserves quantities under SEC rules differ from those that would be reported under application of the UK SORP. The change to SEC reserves in 2006 represented a simplification of the group’s reserves reporting, as only one set of reserves estimates is disclosed. In addition, the use of SEC reserves for accounting purposes makes our results more comparable with those of our major competitors. bUK area includes the UK-based international activities of Refining and Marketing. 127 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 11. Impairment and losses on sale of businesses and fixed assets Impairment losses Exploration and Production Refining and Marketing Other businesses and corporate Impairment reversals Exploration and Production Loss on sale of fixed assets Exploration and Production Refining and Marketing Other businesses and corporate Loss on remeasurement to fair value less costs to sell and on disposal of Innovene operations Innovene operations Continuing operations 2008 2007 $ million 2006 1,186 159 227 1,572 (155) (155) 18 297 1 316 — 1,733 — 1,733 292 1,186 83 1,561 (237) (237) 42 313 – 355 – 1,679 – 1,679 237 155 69 461 (340) (340) 195 228 5 428 184 733 (184) 549 Impairment In assessing whether a write-down is required in the carrying value of a potentially impaired intangible asset, item of property, plant and equipment or an equity-accounted investment, its carrying value is compared with its recoverable amount. The recoverable amount is the higher of the asset’s fair value less costs to sell and value in use. Given the nature of the group’s activities, information on the fair value of an asset is usually difficult to obtain unless negotiations with potential purchasers are taking place. Consequently, unless indicated otherwise, the recoverable amount used in assessing the impairment charges described below is value in use. The group estimates value in use using a discounted cash flow model. The future cash flows are adjusted for risks specific to the asset and are discounted using a pre-tax discount rate. This discount rate is derived from the group’s post-tax weighted average cost of capital and is adjusted where applicable to take into account any specific risks relating to the country where the cash-generating unit is located. Typically rates of 11% or 13% are used (2007 11% or 13%). The rate to be applied for each country is reassessed each year. For impairments of available-for-sale financial assets that are quoted investments, the fair value is determined by reference to bid prices at the close of business at the balance sheet date. Any cumulative gain or loss previously recognized in equity is transferred to the income statement. Exploration and Production During 2008, the Exploration and Production segment recognized impairment losses of $1,186 million. The main elements were the writing down of our investment in Rosneft by $517 million to its fair value determined by reference to an active market, due to a significant decline in the market value of the investment, impairment of oil and gas properties in the Gulf of Mexico of $270 million triggered by downward revisions of reserves, an impairment of exploration assets in Vietnam of $210 million following BP’s decision to withdraw from activities in the area concerned, impairment of oil and gas properties in Egypt of $85 million triggered by cost increases and several other individually insignificant impairment charges amounting to $104 million. These charges were partly offset by reversals of previously recognized impairment charges amounting to $155 million. Of this total, $122 million resulted from a reassessment of the economics of Rhourde El Baguel in Algeria. During 2007, the Exploration and Production segment recognized impairment losses of $292 million. The main elements were a charge of $112 million relating to the cancellation of the DF1 project in Scotland, a $103 million partner loan write-off as a result of unsuccessful drilling in the West Shmidt licence block in Sakhalin and a $52 million write-off of the Whitney Canyon gas plant in US Lower 48 driven by management’s decision to abandon this facility. In addition, there were several individually insignificant impairment charges, triggered by downward reserves revisions, amounting to $25 million in total. These charges were largely offset by reversals of previously recognized impairment charges amounting to $237 million. Of this total, $208 million resulted from a reassessment of the decommissioning liability for damaged platforms in the Gulf of Mexico Shelf. The remaining $29 million related to other individually insignificant impairment reversals, resulting from favourable revisions to the estimates used in determining the assets’ recoverable amounts. During 2006, Exploration and Production recognized a net gain on impairment. The main element was a $340 million credit for reversals of previously booked impairments relating to the UK North Sea, US Lower 48 and China. These reversals resulted from a positive change in the estimates used to determine the assets’ recoverable amount since the impairment losses were recognized. This was partially offset by impairment losses totalling $237 million. The major element was a charge of $109 million against intangible assets relating to properties in Alaska. The trigger for the impairment test was the decision of the Alaska Department of Natural Resources to terminate the Point Thompson Unit Agreement. We are defending our right through the appeal process. In addition, there was a charge of $100 million relating to certain North American pipeline assets. The trigger for impairment testing was the reduction in future pipeline tariff revenues and increased ongoing operational costs. The remaining $28 million relates to other individually insignificant impairments, the impairment tests for which were triggered by downward reserves revisions and increased tax burden. 128 BP Annual Report and Accounts 2008 Notes on financial statements 11. Impairment and losses on sale of businesses and fixed assets continued Refining and Marketing During 2008, the Refining and Marketing segment recognized impairment losses on a number of assets which in total amounted to $159 million. The main component of the 2007 impairment charge of $1,186 million arose because of a decision to sell our company-owned and company- operated sites in the US resulting in a $610 million write-down of the carrying amount of the sites to fair value less costs to sell. Following a decision to sell certain assets at our Acetyls plant in Hull, UK, we wrote down the carrying amount of these assets to fair value less costs to sell leading to an impairment charge of $186 million. Changing marketing conditions led to impairments in Samsung Petrochemical Company, to fair value less costs to sell, and in China American Petrochemical Company amounting in total to $165 million. The balance relates principally to the write-downs of assets elsewhere in the segment portfolio. During 2006, certain assets in our Retail and Aromatics & Acetyls businesses were written down to fair value less costs to sell. Other businesses and corporate During 2008, Other businesses and corporate recognized impairment losses totalling $227 million primarily related to various assets in the Alternative Energy business. There were no significant impairments in 2007. The impairment charge for 2006 relates to remaining chemical assets after the sale of Innovene. Loss on sale of fixed assets The principal transactions that give rise to the losses for each business segment are described below. Exploration and Production The group divested interests in a number of oil and natural gas properties in all three years. For 2006, the largest component of the loss is attributed to the sale of properties in the Gulf of Mexico Shelf, which included increases in decommissioning liability estimates associated with the hurricane- damaged fields that were divested during the year. Refining and Marketing For 2008, the principal transactions contributing to the loss were disposals of retail sites in the US and Europe. For 2007, the principal transactions contributing to the loss were related to the decision to withdraw from the company-owned and company- operated channel of trade in the US and retail churn. Retail churn is the overall process of acquiring and disposing of retail sites by which the group aims to improve the quality and mix of its portfolio of service stations. For 2006, the principal transactions contributing to the loss were retail churn. 12. Impairment review of goodwill Goodwill at 31 December Exploration and Production Refining and Marketing Other businesses and corporate 2008 4,297 5,462 119 9,878 $ million 2007 4,296 6,626 84 11,006 Goodwill acquired through business combinations has been allocated to groups of cash-generating units (cash-generating units) that are expected to benefit from the synergies of the acquisition. For Exploration and Production, goodwill has been allocated to each geographic region, that is UK, Rest of Europe, US and Rest of World, and for Refining and Marketing, goodwill has been allocated to the Rhine Fuels Value Chain (FVC), US West Coast FVC, Lubricants and Other. In assessing whether goodwill has been impaired, the carrying amount of the cash-generating unit (including goodwill) is compared with the recoverable amount of the cash-generating unit. The recoverable amount is the higher of fair value less costs to sell and value in use. In the absence of any information about the fair value of a cash-generating unit, the recoverable amount is deemed to be the value in use. The group calculates the recoverable amount as the value in use using a discounted cash flow model. The future cash flows are adjusted for risks specific to the cash-generating unit and are discounted using a pre-tax discount rate. The discount rate is derived from the group’s post-tax weighted average cost of capital and is adjusted where applicable to take into account any specific risks relating to the country where the cash-generating unit is located. Typically rates of 11% or 13% are used (2007 11% or 13%). The rate to be applied to each country is reassessed each year. A discount rate of 11% has been used for all goodwill impairment calculations performed in 2008 (2007 11%). The three-year or four-year business segment plans, which are approved on an annual basis by senior management, are the primary source of information for the determination of value in use. They contain forecasts for oil and natural gas production, refinery throughputs, sales volumes for various types of refined products (e.g. gasoline and lubricants), revenues, costs and capital expenditure. As an initial step in the preparation of these plans, various environmental assumptions, such as oil prices, natural gas prices, refining margins, refined product margins and cost inflation rates, are set by senior management. These environmental assumptions take account of existing prices, global supply-demand equilibrium for oil and natural gas, other macroeconomic factors and historical trends and variability. For the purposes of impairment testing, the group’s Brent oil price assumption is an average $49 per barrel in 2009, $59 per barrel in 2010, $65 per barrel in 2011, $68 per barrel in 2012, $70 per barrel in 2013 and $75 per barrel in 2014 and beyond (2007 average $90 per barrel in 2008, $86 per barrel in 2009, $84 per barrel in 2010, $84 per barrel in 2011, $84 per barrel in 2012 and $60 per barrel in 2013 and beyond). Similarly, the 129 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 12. Impairment review of goodwill continued group’s assumption for Henry Hub natural gas prices is an average of $6.16/mmBtu in 2009, $7.15/mmBtu in 2010, $7.34/mmBtu in 2011, $7.62/mmBtu in 2012, $7.60/mmBtu in 2013 and $7.50/mmBtu in 2014 and beyond (2007 average of $7.87/mmBtu in 2008, $8.33/mmBtu in 2009, $8.26/mmBtu in 2010, $8.12/mmBtu in 2011, $8.00/mmBtu in 2012 and $7.50/mmBtu in 2013 and beyond). The prices for the first five years are derived from forward price curves at the year-end. Prices in 2014 and beyond are determined using long-term views of global supply and demand, building upon past experience of the industry and consistent with a number of external economic forecasts. These prices are adjusted to arrive at appropriate consistent price assumptions for different qualities of oil and gas. Exploration and Production The value in use is based on the cash flows expected to be generated by the projected oil or natural gas production profiles up to the expected dates of cessation of production of each producing field. Management believes that the cash flows generated over the estimated life of field is the appropriate basis upon which to assess goodwill and individual assets for impairment, as the production profile and related cash flows can be estimated from the company’s past experience. The date of cessation of production depends on the interaction of a number of variables, such as the recoverable quantities of hydrocarbons, the production profile of the hydrocarbons, the cost of the development of the infrastructure necessary to recover the hydrocarbons, the production costs, the contractual duration of the production concession and the selling price of the hydrocarbons produced. As each producing field has specific reservoir characteristics and economic circumstances, the cash flows of the fields are computed using appropriate individual economic models and key assumptions agreed by BP’s management for the purpose. Capital expenditure and operating costs for the first four years and expected hydrocarbon production profiles up to 2020 are derived from the business segment plan. Estimated production quantities and cash flows up to the date of cessation of production on a field-by-field basis are developed to be consistent with this. The production profiles used are consistent with the resource volumes approved as part of BP’s centrally-controlled process for the estimation of proved reserves and total resources. Consistent with prior years, the 2008 review for impairment was carried out during the fourth quarter. Detailed calculations were performed for the US and the UK. As permitted by IAS 36, the detailed calculations performed in 2005 were used for the 2008 impairment test on the goodwill for the Rest of World as the criteria of IAS 36 were considered to be satisfied: the excess of the recoverable amount over the carrying amount was substantial in 2005; there had been no significant change in the assets and liabilities; and the likelihood that the recoverable amount would be less than the carrying amount at the time of the test was remote. The following table shows the carrying amount of the goodwill allocated to each of the regions of the Exploration and Production segment and, for the US and the UK, the amount by which the recoverable amount (value in use) exceeds the carrying amount of the goodwill and other non-current assets in the cash-generating units to which the goodwill has been allocated. No impairment charge is required. The key assumptions required for the value-in-use estimation are the oil and natural gas prices, production volumes and the discount rate. To test the sensitivity of the excess of the recoverable amount over the carrying amount of goodwill and other non-current assets (the headroom) to changes in production volumes and oil and natural gas prices, management has developed ‘rules of thumb’ for key assumptions. Applying these gives an indication of the impact on the headroom of possible changes in the key assumptions. It is estimated that the long-term price of oil that would cause the total recoverable amount to be equal to the total carrying amount for each cash-generating unit would be of the order of $38 per barrel for the UK and $50 per barrel for the US. It was estimated that the long-term price of gas that would cause the total recoverable amount to be equal to the total carrying amount of goodwill and related non-current assets for the US cash-generating unit would be of the order of $4/mmBtu (Henry Hub). As a significant amount of gas from the North Sea is sold under fixed-price contracts, or contracts priced using non-gas indices, it is estimated that no reasonably possible change in gas prices would cause the UK headroom to be reduced to zero. It was estimated that no reasonably possible change in oil and gas prices would cause the headroom in Rest of World to be reduced to zero. Estimated production volumes are based on detailed data for the fields and take into account development plans for the fields agreed by management as part of the long-term planning process. It is estimated that, if all our production were to be reduced by 10% for the whole of the next 15 years, this would not be sufficient to reduce the excess of recoverable amount over the carrying amounts of each cash-generating unit to zero. Consequently, management believes no reasonably possible change in the production assumption would cause the carrying amounts to exceed the recoverable amounts. Management also believes that currently there is no reasonably possible change in discount rate that would cause the carrying amounts in the UK, US or Rest of World to exceed the recoverable amounts. Goodwill Excess of recoverable amount over carrying amount Goodwill 130 UK 341 7,972 US 3,441 16,692 UK 341 US 3,440 $ million 2008 Total 4,297 n/a $ million 2007 Total 4,296 Rest of World 515 n/a Rest of World 515 BP Annual Report and Accounts 2008 Notes on financial statements 12. Impairment review of goodwill continued Refining and Marketing In previous years, Refining and Marketing goodwill has been allocated to the following cash-generating units: Refining, Retail, Lubricants, and Other. In 2008, the Refining and Retail units were largely integrated into geographically-based Fuels Value Chain units (FVC) and consequently the cash- generating units to which goodwill is allocated have been redefined. The goodwill previously allocated to the global Refining and Retail units has been aggregated and reallocated to the FVC units that are expected to benefit from the synergies of the business combinations that gave rise to the goodwill. As part of this reallocation a small amount of goodwill was also allocated to business units included in ‘Other’. Goodwill is now allocated to the following cash-generating units: Rhine FVC, US West Coast FVC, Lubricants and Other. For all cash-generating units, the cash flows for the first three years are derived from the three-year business segment plan. For determining the value in use for each of the cash-generating units, cash flows for a period of 10 years have been discounted and aggregated with a terminal value. A key assumption for the FVCs is the Global Indicator Margin (GIM). Each regional GIM is based on a single representative crude with product yields characteristic of the typical level of upgrading complexity. Rhine FVC Cash flows beyond the three-year period are extrapolated using a 1.2% growth rate. The key assumptions to which the calculation of value in use for the Rhine FVC unit is most sensitive are refinery gross margins, refinery production volumes and discount rate. The average value assigned to the refinery gross margin during the plan period is based on a $5.50 per barrel GIM. The average value assigned to the refinery production volume is 250mmbbl a year over the plan period. These key assumptions reflect past experience and are consistent with external sources. The Rhine FVC’s recoverable amount exceeds its carrying amount by $3.6 billion. Based on sensitivity analysis, it is estimated that: (i) if the GIM changes by $1 per barrel, the Rhine FVC’s value in use changes by $2.1 billion and, if there was an adverse change in the GIM of $1.70 per barrel, the recoverable amount of the Rhine FVC would equal its carrying amount; (ii) if the volume assumption changes by 13mmbbl a year, the Rhine FVC’s value in use changes by $1.2 billion and, if there is an adverse change in refinery volumes of 36mmbbl a year, the recoverable amount of the Rhine FVC would equal its carrying amount; and (iii) a change of 1% in the discount rate would change the Rhine FVC’s value in use by $0.8 billion and, if the discount rate increases to 17% the value in use of the Rhine FVC would equal its carrying amount. US West Coast FVC Cash flows beyond the three-year period are extrapolated using a 2% growth rate. The key assumptions to which the calculation of value in use for the West Coast FVC unit is most sensitive are refinery gross margins, refinery production volumes and discount rate. The average value assigned to the refinery gross margin during the plan period is based on a $7.60 per barrel GIM. The average value assigned to the refinery production volume is 170mmbbl a year over the plan period. These key assumptions reflect past experience and are consistent with external sources. The West Coast FVC’s recoverable amount exceeds its carrying amount by $1.6 billion. Based on sensitivity analysis, it is estimated that: (i) if the GIM changes by $1 per barrel, the West Coast FVC’s value in use changes by $1.5 billion and, if there was an adverse change in the GIM of $1.10 per barrel, the recoverable amount of the West Coast FVC would equal its carrying amount; (ii) if the volume assumption changes by 8mmbbl a year, the West Coast FVC’s value in use changes by $1.1 billion and, if there is an adverse change in refinery volumes of 12mmbbl a year, the recoverable amount of the West Coast FVC would equal its carrying amount; and (iii) a change of 1% in the discount rate would change the West Coast FVC’s value in use by $0.6 billion and, if the discount rate increases to 14% the value in use of the West Coast FVC would equal its carrying amount. Lubricants Cash flows beyond the three-year period are extrapolated using a 3% growth rate (2007 3%). For the Lubricants unit, the key assumptions to which the calculation of value in use is most sensitive are operating margin, sales volumes and discount rate. The average values assigned to the operating margin and sales volumes over the plan period are 70 cents per litre (2007 65 cents per litre) and 3.4 billion litres a year (2007 3.3 billion litres a year) respectively. These key assumptions reflect past experience. The Lubricants unit’s recoverable amount exceeds its carrying amount by $5.4 billion. Based on sensitivity analysis, it is estimated that: (i) if there is an adverse change in the operating margin of 14 cents per litre, the recoverable amount of the Lubricants unit would equal its carrying amount; (ii) if the sales volume assumption changes by 200 million litres a year, the Lubricants unit’s value in use changes by $1.4 billion and, if there is an adverse change in Lubricants sales volumes of 700 million litres a year, the recoverable amount of the Lubricants unit would equal its carrying amount; and (iii) a change of 1% in the discount rate would change the Lubricants unit’s value in use by $1.4 billion and, management believes no reasonably possible change in the discount rate would lead to the Lubricants unit’s value in use being equal to its carrying amount. Goodwill Excess of recoverable amount over carrying amount Goodwill Excess of recoverable amount over carrying amount Rhine FVC 637 3,603 US West Coast FVC 1,579 1,629 Lubricants 3,043 5,445 Refining 1,515 11,443 Retail 827 4,062 Lubricants 4,175 5,028 $ million 2008 Total 5,462 n/a $ million 2007 Total 6,626 n/a Other 203 n/a Other 109 n/a Comparative narrative information is not generally shown because, due to the reorganization of the Refining and Marketing business in 2008, the information is not relevant to an understanding of the current year’s financial statements. 131 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 13. Distribution and administration expenses Distribution Administration 14. Currency exchange gains and losses Currency exchange (gains) losses (credited) charged to income relating to embedded derivatives measured at fair value through profit or loss Other currency exchange (gains) losses (credited) charged to income 15. Research and development Expenditure on research and development 16. Operating leases 2008 14,075 1,337 15,412 2007 14,028 1,343 15,371 2008 2007 (496) 156 (340) 12 (201) (189) 2008 595 2007 566 $ million 2006 13,174 1,273 14,447 $ million 2006 179 43 222 $ million 2006 395 The table below shows the expense for the year in respect of operating leases. Where an operating lease is entered into solely by the group as the operator of a jointly controlled asset, the total cost is included in this analysis, irrespective of any amounts that have been or will be reimbursed by joint venture partners. Where BP is not the operator of a jointly controlled asset, and has not co-signed the lease, operating lease costs and future minimum lease payments are excluded from the information given below. However, where BP has co-signed the lease, BP’s share of the lease costs and future minimum lease payments are included. Minimum lease payments Contingent rentals Sub-lease rentals 2008 4,870 134 (201) 4,803 2007 4,152 105 (191) 4,066 $ million 2006 3,647 13 (131) 3,529 The future minimum lease payments at 31 December, before deducting related rental income from operating sub-leases of $557 million (2007 $618 million), are shown in the table below. This does not include future contingent rentals. Where the lease rentals are dependent on a variable factor, the future minimum lease payments are based on the factor as at inception of the lease. Future minimum lease payments Payable within 1 year 2 to 5 years Thereafter Of which, future minimum operating lease commitments relating to drilling rigs are $7,730 million (2007 $5,688 million). 2008 4,135 9,140 5,520 18,795 $ million 2007 3,780 7,660 5,498 16,938 132 BP Annual Report and Accounts 2008 Notes on financial statements 16. Operating leases continued The following additional disclosures represent the net operating lease expense and net future minimum lease payments, after deducting amounts reimbursed, or to be reimbursed, by joint venture partners. Where BP is not the operator of a jointly controlled asset, and has not co-signed the lease, operating lease costs and future minimum lease payments are excluded from the information given below. However, where BP has co-signed the lease, BP’s share of the lease costs and future minimum lease payments are included. Minimum lease payments Contingent rentals Sub-lease rentals Future minimum lease payments Payable within 1 year 2 to 5 years Thereafter 2008 3,693 97 (197) 3,593 2007 3,100 80 (183) 2,997 2008 3,165 7,135 4,820 15,120 $ million 2006 2,924 13 (131) 2,806 $ million 2007 2,826 6,519 5,050 14,395 Of which, future minimum operating lease commitments relating to drilling rigs are $4,660 million (2007 $3,736 million). The group enters into operating leases of ships, plant and machinery, commercial vehicles and land and buildings. Typical durations of the leases are as follows: Ships Plant and machinery Commercial vehicles Land and buildings Years up to 15 up to 10 up to 15 up to 40 The group has entered into a number of structured operating leases for ships and in most cases the lease rental payments vary with market interest rates. The variable portion of the lease payments above or below the amount based on the market interest rate prevailing at inception of the lease is treated as contingent rental expense. The group also routinely enters into bareboat charters, time-charters and spot-charters for ships on standard industry terms. The most significant items of plant and machinery hired under operating leases are drilling rigs used in the Exploration and Production segment. In some cases, drilling rig lease rental rates are adjusted periodically to market rates that are influenced by oil prices and may be significantly different from the rates at the inception of the lease. Differences between the rate paid and the rate at inception of the lease are treated as contingent rental expense. Commercial vehicles hired under operating leases are primarily railcars. Retail service station sites and office accommodation are the main items in the land and buildings category. The terms and conditions of these operating leases do not impose any significant financial restrictions on the group. Some of the leases of ships and buildings allow for renewals at BP’s option. s t n e m e t a t s l i a c n a n F i 17. Exploration for and evaluation of oil and natural gas resources The following financial information represents the amounts included within the group totals relating to activity associated with the exploration for and evaluation of oil and natural gas resources. All such activity is recorded within the Exploration and Production segment. Exploration and evaluation costs Exploration expenditure written off Other exploration costs Exploration expense for the yeara Intangible assets – exploration expenditure Net assets Capital expenditure and acquisitions Net cash used in operating activities Net cash used in investing activities 2008 2007 385 497 882 9,031 9,031 4,780 497 4,163 347 409 756 5,252 5,252 2,000 409 2,000 $ million 2006 624 421 1,045 4,110 4,110 1,537 421 1,498 aIn addition to these amounts, an impairment charge of $210 million was recognized in 2008 relating to exploration assets in Vietnam following BP’s decision to withdraw from activities in the area concerned. 133 BP Annual Report and Accounts 2008 Notes on financial statements 18. Auditor’s remuneration Fees – Ernst & Young Fees payable to the company’s auditors for the audit of the company’s accountsa Fees payable to the company’s auditors and its associates for other services Audit of the company’s subsidiaries pursuant to legislation Other services pursuant to legislation Tax services Services relating to corporate finance transactions All other services Audit fees in respect of the BP pension plans 2008 16 2007 18 $ million 2006 15 28 13 57 2 2 5 1 67 31 14 63 2 1 8 1 75 31 15 61 1 2 9 – 73 aFees in respect of the audit of the accounts of BP p.l.c. including the group’s consolidated financial statements. Total fees for 2008 include $3 million of additional fees for 2007 (2007 includes $7 million of additional fees for 2006 and 2006 includes $5 million of additional fees for 2005). Auditor’s remuneration is included in the income statement within distribution and administration expenses. The tax services relate to income tax and indirect tax compliance, employee tax services and tax advisory services. The audit committee has established pre-approval policies and procedures for the engagement of Ernst & Young to render audit and certain assurance and tax services. The audit fees payable to Ernst & Young are reviewed by the audit committee in the context of other global companies for cost-effectiveness. Ernst & Young performed further assurance and tax services that were not prohibited by regulatory or other professional requirements and were pre-approved by the committee. Ernst & Young is engaged for these services when its expertise and experience of BP are important. Most of this work is of an audit nature. Tax services were awarded either through a full competitive tender process or following an assessment of the expertise of Ernst & Young compared with that of other potential service providers. These services are for a fixed term. 19. Finance costs Interest payable Capitalized at 4.00% (2007 5.70% and 2006 5.25%)a Unwinding of discount on provisions Unwinding of discount on other payables aTax relief on capitalized interest is $42 million (2007 $81 million and 2006 $182 million). Revised income statement presentation 2008 1,319 (162) 287 103 1,547 2007 1,433 (323) 283 – 1,393 $ million 2006 1,196 (478) 245 23 986 With effect from 1 January 2008, the unwinding of the discount on provisions and on other payables is now included within finance costs. Previously, it was included within other finance income or expense. This line item has now been renamed net finance income or expense relating to pensions and other post-retirement benefits. This change does not affect profit before interest and taxation, profit before taxation or profit for the period in the group income statement. For 2007 $283 million was reclassified from other finance income to finance costs (2006 $268 million). 134 BP Annual Report and Accounts 2008 Notes on financial statements 20. Taxation Tax on profit Current tax Charge for the year Adjustment in respect of prior years Innovene operations Continuing operations Deferred tax Origination and reversal of temporary differences in the current year Adjustment in respect of prior years Tax on profit from continuing operations Tax included in the statement of recognized income and expense Current tax Deferred tax This comprises: Currency translation differences Actuarial gain (loss) relating to pensions and other post-retirement benefits Share-based payments Cash flow hedges Available-for-sale investments 2008 2007 13,468 (85) 13,383 – 13,383 (324) (442) (766) 12,617 2008 (264) (2,492) (2,756) (100) (2,602) 190 (194) (50) (2,756) 10,006 (171) 9,835 – 9,835 671 (64) 607 10,442 2007 (178) 241 63 (139) 427 (213) (26) 14 63 $ million 2006 11,199 442 11,641 159 11,800 1,771 (1,240) 531 12,331 $ million 2006 (51) 985 934 201 820 (26) 47 (108) 934 Reconciliation of the effective tax rate The following table provides a reconciliation of the UK statutory corporation tax rate to the effective tax rate of the group on profit before taxation from continuing operations. Profit before taxation from continuing operations Tax on profit from continuing operations Effective tax rate UK statutory corporation tax rate Increase (decrease) resulting from UK supplementary and overseas taxes at higher rates Tax reported in equity-accounted entities Adjustments in respect of prior years Current year losses unrelieved (prior year losses utilized) Other Effective tax rate 2008 34,283 12,617 37% 2007 31,611 10,442 33% $ million 2006 34,642 12,331 36% 28 14 (2) (2) (1) – 37 % of profit before taxation from continuing operations 30 30 s t n e m e t a t s l i a c n a n F i 7 (2) (1) (1) – 33 11 (3) (2) (1) 1 36 135 BP Annual Report and Accounts 2008 Notes on financial statements 20. Taxation continued Deferred tax Deferred tax liability Depreciation Pension plan surpluses Other taxable temporary differences Deferred tax asset Petroleum revenue tax Pension plan and other post-retirement benefit plan deficits Decommissioning, environmental and other provisions Derivative financial instruments Tax credit and loss carry forward Other deductible temporary differences 2008 1,248 108 (2,471) (1,115) 121 104 (333) 228 118 111 349 (766) 125 127 1,371 1,623 139 (72) (1,069) 450 (466) 2 (1,016) 607 Income statement 2006a 2007a $ million Balance sheet 2007a 2008 1,423 173 417 2,013 4 71 (754) (115) 220 (908) (1,482) 531 23,342 412 3,626 27,380 (192) (2,414) (4,860) (331) (1,821) (1,564) (11,182) 16,198 2008 19,215 (67) (766) (2,492) – 308 16,198 22,338 2,136 5,998 30,472 (325) (1,545) (5,107) (541) (1,822) (1,917) (11,257) 19,215 $ million 2007 18,116 42 607 241 199 10 19,215 Net deferred tax (credit) charge and net deferred tax liability aA minor amendment has been made to the comparative amounts shown in the analysis of deferred tax by category of temporary difference. Analysis of movements during the year At 1 January Exchange adjustments Charge (credit) for the year on ordinary activities Charge (credit) for the year in the statement of recognized income and expense Acquisitions Other movements At 31 December In 2008, there have been no changes in the statutory tax rates that have materially impacted the group’s tax charge. The enactment, in 2007, of a 2% reduction in the rate of UK corporation tax on profits arising from activities outside the North Sea reduced the deferred tax charge by $189 million in that year. Deferred tax assets are recognized to the extent that it is probable that taxable profit will be available against which the deductible temporary differences and the carry-forward of unused tax assets and unused tax losses can be utilized. At 31 December 2008, the group had around $6.3 billion (2007 $5.0 billion) of carry-forward tax losses, predominantly in Europe, that would be available to offset against future taxable profit. A deferred tax asset has been recognized in respect of $4.2 billion of losses (2007 $3.2 billion). No deferred tax asset has been recognized in respect of $2.1 billion of losses (2007 $1.8 billion). Substantially all the tax losses have no fixed expiry date. At 31 December 2008, the group had around $3.4 billion (2007 $4.1 billion) of unused tax credits in the UK and US. A deferred tax asset of $0.5 billion has been recognized in 2008 for these credits (2007 $0.8 billion), which is offset by a deferred tax liability associated with unremitted profits from overseas entities in jurisdictions with a lower tax rate than the UK. No deferred tax asset has been recognized in respect of $2.9 billion of tax credits (2007 $3.2 billion). The UK tax credits do not have a fixed expiry date. The US tax credits, amounting to $1.8 billion, expire ten years after generation, and substantially all expire in the period 2014-2018. The major components of temporary differences at the end of 2008 are tax depreciation, US inventory holding gains (classified as other taxable temporary differences), provisions, and pension plan and other post-retirement benefit plan deficits. The group profit and loss account reserve includes $18,347 million (2007 $16,335 million) of earnings retained by subsidiaries and equity-accounted entities. 21. Dividends 2008 2007 2006 2008 2007 2006 2008 2007 pence per share cents per share $ million 2006 Dividends announced and paid Preference shares Ordinary shares March June September December Dividend announced per ordinary share, payable in March 2009 6.813 6.830 7.039 8.705 29.387 9.818 2 2 2 5.258 5.151 5.278 5.308 20.995 5.288 5.251 5.324 5.241 21.104 13.525 13.525 14.000 14.000 55.050 10.325 10.325 10.825 10.825 42.300 9.375 9.375 9.825 9.825 38.400 2,553 2,545 2,623 2,619 10,342 2,000 1,983 2,065 2,056 8,106 1,922 1,893 1,943 1,926 7,686 – – 14.000 – – 2,626 – – The group does not account for dividends until they are paid. The accounts for the year ended 31 December 2008 do not reflect the dividend announced on 3 February 2009 and payable in March 2009; this will be treated as an appropriation of profit in the year ended 31 December 2009. 136 BP Annual Report and Accounts 2008 Notes on financial statements 22. Earnings per ordinary share Basic earnings per share Diluted earnings per share 2008 112.59 111.56 cents per share 2007 108.76 107.84 2006 109.84 109.00 Basic earnings per ordinary share amounts are calculated by dividing the profit for the year attributable to ordinary shareholders by the weighted average number of ordinary shares outstanding during the year. The average number of shares outstanding excludes treasury shares and the shares held by the Employee Share Ownership Plans (ESOPs) and includes certain shares that will be issuable in the future under employee share plans. For the diluted earnings per share calculation, the weighted average number of shares outstanding during the year is adjusted for the number of shares that are potentially issuable in connection with employee share-based payment plans using the treasury stock method. In addition, for 2006 the profit attributable to ordinary shareholders has been adjusted for the unwinding of the discount on the deferred consideration for the acquisition of our interest in TNK-BP and the weighted average number of shares outstanding during the year has been adjusted for the number of shares to be issued for the deferred consideration for the acquisition of our interest in TNK-BP. Profit from continuing operations attributable to BP shareholders Less dividend requirements on preference shares Profit from continuing operations attributable to BP ordinary shareholders Loss from discontinued operations Unwinding of discount on deferred consideration for acquisition of investment in TNK-BP (net of tax) Diluted profit for the year attributable to BP ordinary shareholders Basic weighted average number of ordinary shares Potential dilutive effect of ordinary shares issuable under employee share schemes Potential dilutive effect of ordinary shares issuable as consideration for BP’s interest in the TNK-BP joint venture 2008 21,157 2 21,155 – 21,155 – 21,155 2007 20,845 2 20,843 – 20,843 – 20,843 $ million 2006 22,025 2 22,023 (25) 21,998 16 22,014 shares thousand 2008 2006 18,789,827 19,163,389 20,027,527 109,813 163,486 172,690 2007 58,118 18,962,517 19,326,875 20,195,458 – – The number of ordinary shares outstanding at 31 December 2008, excluding treasury shares and the shares held by the ESOPs, and including certain shares that will be issuable in the future under employee share plans was 18,716,098,258. Between 31 December 2008 and 18 February 2009, the latest practicable date before the completion of these financial statements, there has been an increase of 4,867,626 in the number of ordinary shares outstanding as a result of share issues related to employee share plans. The number of potential ordinary shares issuable through the exercise of options related to employee share plans was 191,340,183 at 31 December 2008. There has been a decrease of 42,722,753 in the number of potential ordinary shares between 31 December 2008 and 18 February 2009. Loss per share for the discontinued operations in 2006 is derived from the net loss attributable to ordinary shareholders from discontinued operations of $25 million, divided by the weighted average number of ordinary shares for both basic and diluted amounts as shown above. s t n e m e t a t s l i a c n a n F i 137 BP Annual Report and Accounts 2008 Notes on financial statements 23. Property, plant and equipment Cost At 1 January 2008 Exchange adjustments Acquisitions Additions Transfersa Deletions At 31 December 2008 Depreciation At 1 January 2008 Exchange adjustments Charge for the year Impairment losses Impairment reversals Transfersb Deletions At 31 December 2008 Net book amount at 31 December 2008 Cost At 1 January 2007 Exchange adjustments Acquisitions Additions Transfers Reclassified as assets held for sale Deletions At 31 December 2007 Depreciation At 1 January 2007 Exchange adjustments Charge for the year Impairment losses Impairment reversals Reclassified as assets held for sale Deletions At 31 December 2007 Net book amount at 31 December 2007 Net book amount at 1 January 2007 Assets held under finance leases at net book amount included above At 31 December 2008 At 31 December 2007 Decommissioning asset at net book amount included above At 31 December 2008 At 31 December 2007 Assets under construction included above At 31 December 2008 At 31 December 2007 Land and land improve- ments Buildings 4,516 (320) – 64 – (296) 3,964 718 (30) 32 21 – – (143) 598 3,366 4,442 271 – 78 – (16) (259) 4,516 675 25 52 86 – (9) (111) 718 3,798 3,767 3,150 (287) – 161 – (282) 2,742 1,533 (118) 79 33 – – (214) 1,313 1,429 3,129 148 – 171 – – (298) 3,150 1,470 89 98 62 – – (186) 1,533 1,617 1,659 Oil and gas properties 134,615 (1) 136 12,571 (454) (54) 146,813 72,486 – 7,490 469 (122) (352) (16) 79,955 66,858 123,493 22 – 12,107 422 – (1,429) 134,615 66,189 19 7,370 189 (237) – (1,044) 72,486 62,129 57,304 Plant, machinery and equipment Fixtures, fittings and office equipment Transport- ation Oil depots, storage tanks and service stations 36,365 (1,655) 212 4,118 79 (1,214) 37,905 17,417 (917) 1,697 131 – 4 (1,034) 17,298 20,607 32,203 1,182 910 3,662 – (1,114) (478) 36,365 16,189 556 1,266 236 – (486) (344) 17,417 18,948 16,014 3,169 (237) – 530 (1) (416) 3,045 1,820 (147) 313 1 – (1) (290) 1,696 1,349 3,006 73 – 466 – – (376) 3,169 1,762 45 341 9 – – (337) 1,820 1,349 1,244 11,866 (98) – 243 454 (170) 12,295 7,126 (41) 296 – – 274 (113) 7,542 4,753 11,930 32 – 181 – – (277) 11,866 6,876 16 373 14 – – (153) 7,126 4,740 5,054 11,410 (1,047) – 842 – (860) 10,345 6,002 (502) 709 19 – – (721) 5,507 4,838 11,076 733 – 643 – – (1,042) 11,410 5,119 299 741 643 – – (800) 6,002 5,408 5,957 – – 12 17 237 155 107 185 – – 8 11 18 24 Cost Depreciation 7,140 7,851 3,659 3,328 $ million Total 205,091 (3,645) 348 18,529 78 (3,292) 217,109 107,102 (1,755) 10,616 674 (122) (75) (2,531) 113,909 103,200 189,279 2,461 910 17,308 422 (1,130) (4,159) 205,091 98,280 1,049 10,241 1,239 (237) (495) (2,975) 107,102 97,989 90,999 382 392 Net 3,481 4,523 17,213 18,658 aIncludes $337 million transferred to equity-accounted investments and $415 million transferred from intangible assets. bIncludes $75 million transferred to equity-accounted investments. 138 BP Annual Report and Accounts 2008 Notes on financial statements 24. Goodwill Cost and net book amount At 1 January Exchange adjustments Acquisitions Additions Reclassified as assets held for sale Deletions At 31 December 25. Intangible assets Cost At 1 January Exchange adjustments Acquisitions Additionsa Transfersb Deletions At 31 December Amortization At 1 January Exchange adjustments Charge for the year Impairment losses Deletions At 31 December Net book amount at 31 December Net book amount at 1 January 2008 11,006 (1,112) 1 39 – (56) 9,878 $ million 2007 10,780 126 270 – (90) (80) 11,006 Exploration expenditure Other intangibles 5,637 (1) 42 4,738 (415) (576) 9,425 385 – 385 200 (576) 394 9,031 5,252 2,898 (175) – 354 – (150) 2,927 1,498 (60) 369 – (109) 1,698 1,229 1,400 2008 Total 8,535 (176) 42 5,092 (415) (726) 12,352 1,883 (60) 754 200 (685) 2,092 10,260 6,652 Exploration expenditure Other intangibles 4,590 3 – 2,000 (506) (450) 5,637 480 – 347 – (442) 385 5,252 4,110 2,396 49 35 548 – (130) 2,898 1,260 25 338 – (125) 1,498 1,400 1,136 $ million 2007 Total 6,986 52 35 2,548 (506) (580) 8,535 1,740 25 685 – (567) 1,883 6,652 5,246 aIncluded in additions to exploration expenditure in 2008 is $2,331 million in relation to BP’s purchase of interests in shale gas assets in the US. bIncluded in transfers of exploration expenditure in 2007 is $84 million transferred to equity-accounted investments. s t n e m e t a t s l i a c n a n F i 139 BP Annual Report and Accounts 2008 Notes on financial statements 26. Investments in jointly controlled entities The significant jointly controlled entities of the BP group at 31 December 2008 are shown in Note 46. The principal joint venture is the TNK-BP joint venture. Summarized financial information for the group’s share of jointly controlled entities is shown below. Sales and other operating revenues Profit before interest and taxation Finance costs Profit before taxation Taxation Minority interest Profit for the yeara Non-current assets Current assets Total assets Current liabilities Non-current liabilities Total liabilities Minority interest Group investment in jointly controlled entities Group share of net assets (as above) Loans made by group companies to jointly controlled entities TNK-BP 25,936 3,588 275 3,313 882 169 2,262 13,874 3,760 17,634 3,287 4,820 8,107 588 8,939 Other 10,796 1,343 185 1,158 397 – 761 15,584 3,687 19,271 1,998 3,973 5,971 – 13,300 2008 Total 36,732 4,931 460 4,471 1,279 169 3,023 29,458 7,447 36,905 5,285 8,793 14,078 588 22,239 TNK-BP 19,463 3,743 264 3,479 993 215 2,271 12,433 6,073 18,506 3,547 5,562 9,109 580 8,817 Other 7,245 1,299 176 1,123 259 – 864 9,841 2,642 12,483 1,552 3,620 5,172 – 7,311 2007 Total 26,708 5,042 440 4,602 1,252 215 3,135 22,274 8,715 30,989 5,099 9,182 14,281 580 16,128 8,939 13,300 22,239 8,817 7,311 16,128 – 8,939 1,587 14,887 1,587 23,826 – 8,817 1,985 9,296 1,985 18,113 TNK-BP 17,863 4,616 192 4,424 1,467 193 2,764 Other 6,119 1,218 169 1,049 260 – 789 $ million 2006 Total 23,982 5,834 361 5,473 1,727 193 3,553 aBP’s share of the profit of TNK-BP in 2006 includes a net gain of $892 million on the disposal of certain assets. In December 2007, BP signed a memorandum of understanding with Husky Energy Inc. (Husky) to form an integrated North American oil sands business. The transaction was completed on 31 March 2008, with BP contributing its Toledo refinery to a US jointly controlled entity to which Husky contributed $250 million cash and a payable of $2,588 million. In Canada, Husky contributed its Sunrise field to a second jointly controlled entity, with BP contributing $250 million in cash and a payable of $2,264 million. Both jointly controlled entities are owned 50:50 by BP and Husky and are accounted for using the equity method. During the year, equity-accounted earnings from these jointly controlled entities amounted to a loss of $70 million. BP purchased refined products from the Toledo jointly controlled entity during the year amounting to $3,440 million. In addition, BP purchased crude oil from third parties which it sold to the Toledo jointly controlled entity under an agency agreement. The fees earned by BP for this service, and the total amounts receivable and payable at 31 December 2008 under these arrangements, were not significant. BP will also purchase refinery feedstocks from the Sunrise jointly controlled entity once production commences, which is expected in 2013. During 2008 the unwinding of discount on the payable to the Sunrise jointly controlled entity, included within finance costs in the group income statement, amounted to $103 million. Our investment in TNK-BP will be reclassified from a jointly controlled entity to an associate with effect from 9 January 2009, the date that BP finalized a revised shareholder agreement with its Russian partners in TNK-BP, Alfa Access-Renova (AAR). The formerly evenly-balanced main board structure is replaced by one with four representatives each from BP and AAR, plus three independent directors. The change in accounting classification from a jointly controlled entity to an associate reflects the ability of the independent directors of TNK-BP to decide on certain matters in the event of disagreement between the shareholder representatives on the board. The group's investment will continue to be accounted for using the equity method. Transactions between the group and its jointly controlled entities are summarized below. Sales to jointly controlled entities Product LNG, crude oil and oil products, natural gas, employee services Purchases from jointly controlled entities Product Crude oil and oil products, natural gas, refinery operating costs, plant processing fees 2008 Amount receivable at 31 December 1,036 Sales 2,971 Sales 2,336 2008 Amount payable at 31 Decembera Purchases Purchases 2007 Amount receivable at 31 December 888 2007 Amount payable at 31 December $ million 2006 Amount receivable at 31 December 830 $ million 2006 Amount payable at 31 December Sales 2,258 Purchases 9,115 2,547 2,067 66 3,678 119 aIncludes $110 million current payable and $2,255 million non-current payable to the Sunrise Oil Sands jointly controlled entity relating to BP’s contribution on the establishment of the joint venture. The terms of the outstanding balances receivable from jointly controlled entities are typically 30 to 45 days, except for a receivable from Ruhr Oel of $386 million, which will be paid over several years as it relates to pension payments. The balances are unsecured and will be settled in cash. There are no significant provisions for doubtful debts relating to these balances and no significant expense recognized in the income statement in respect of bad or doubtful debts. 140 BP Annual Report and Accounts 2008 Notes on financial statements 27. Investment in associates The significant associates of the group are shown in Note 46. Summarized financial information for the group’s share of associates is set out below. Sales and other operating revenues Profit before interest and taxation Finance costs Profit before taxation Taxation Profit for the year Non-current assets Current assets Total assets Current liabilities Non-current liabilities Total liabilities Group investment in associates Group share of net assets (as above) Loans made by group companies to associates 2008 11,709 1,065 33 1,032 234 798 4,292 1,912 6,204 1,669 1,852 3,521 2,683 2,683 1,317 4,000 Transactions between the group and its associates are summarized below. Sales to associates Product LNG, crude oil and oil products, natural gas, employee services 2008 Amount receivable at 31 December 219 Sales 3,248 2007 Amount receivable at 31 December 60 Sales 697 2007 9,855 947 57 890 193 697 5,012 2,308 7,320 1,801 2,423 4,224 3,096 3,096 1,483 4,579 Sales 747 Purchases from associates Product Crude oil, natural gas, transportation tariff 2008 Amount payable at 31 December 295 2007 Amount payable at 31 December 574 Purchases 2,905 Purchases 4,635 Purchases 2,568 $ million 2006 8,792 669 63 606 164 442 $ million 2006 Amount receivable at 31 December 66 $ million 2006 Amount payable at 31 December 236 The terms of the outstanding balances receivable from associates are typically 30 to 45 days. The balances are unsecured and will be settled in cash. There are no significant provisions for doubtful debts relating to these balances and no significant expense recognized in the income statement in respect of bad or doubtful debts. s t n e m e t a t s l i a c n a n F i 141 BP Annual Report and Accounts 2008 Notes on financial statements 28. Financial instruments and financial risk factors The accounting classification of each category of financial instruments, and their carrying amounts, are set out below. At 31 December Financial assets Other investments – listed Other investments – unlisted Loans Trade and other receivables Derivative financial instruments Cash at bank and in hand Cash equivalents – listed Cash equivalents – unlisted Financial liabilities Trade and other payables Derivative financial instruments Accruals Finance debt At 31 December Financial assets Other investments – listed Other investments – unlisted Loans Trade and other receivables Derivative financial instruments Cash at bank and in hand Cash equivalents – listed Cash equivalents – unlisted Financial liabilities Trade and other payables Derivative financial instruments Accruals Finance debt $ million 2008 Total carrying amount 592 263 1,163 29,489 13,564 4,001 4,060 136 $ million 2007 Total carrying amount 1,617 213 1,164 38,710 10,062 2,996 3 563 Note Loans and receivables Available-for- sale financial assets At fair value through profit and loss Derivative Financial liabilities hedging measured at instruments amortized cost 29 29 31 34 32 32 32 33 34 35 – – 1,163 29,489 – 4,001 – – – – – – 34,653 592 263 – – – – 4,060 136 – – – – 5,051 – – – – 12,501 – – – – (13,173) – – (672) – – – – 1,063 – – – – – – – – – – – – (2,075) – – (1,012) (33,140) – (7,527) (33,204) (73,871) (33,140) (15,248) (7,527) (33,204) (35,851) Note Loans and receivables Available-for- sale financial assets At fair value through profit and loss Derivative hedging instruments Financial liabilities measured at amortized cost 29 29 31 34 32 32 32 33 34 35 – – 1,164 38,710 – 2,996 – – – – – – 42,870 1,617 213 – – – – 3 563 – – – – 2,396 – – – – 9,155 – – – – (11,284) – – (2,129) – – – – 907 – – – – (123) – – 784 – – – – – – – – (40,062) – (7,599) (31,045) (78,706) (40,062) (11,407) (7,599) (31,045) (34,785) The fair value of finance debt is shown in Note 35. For all other financial instruments, the carrying amount is either the fair value, or approximates the fair value. Financial risk factors The group is exposed to a number of different financial risks arising from natural business exposures as well as its use of financial instruments including market risks relating to commodity prices, foreign currency exchange rates, interest rates and equity prices, credit risk and liquidity risk. The group financial risk committee (GFRC) advises the group chief financial officer (CFO) who oversees the management of these risks. The GFRC is chaired by the CFO and consists of a group of senior managers including the group treasurer and the heads of the finance, tax and the integrated supply and trading functions. The purpose of the committee is to advise on financial risks and the appropriate financial risk governance framework for the group. The committee provides assurance to the CFO and the group chief executive (GCE), and via the GCE to the board, that the group’s financial risk-taking activity is governed by appropriate policies and procedures and that financial risks are identified, measured and managed in accordance with group policies and group risk appetite. 142 BP Annual Report and Accounts 2008 Notes on financial statements 28. Financial instruments and financial risk factors continued The group’s trading activities in the oil, natural gas and power markets are managed within the integrated supply and trading function, while activities in the financial markets are managed by the treasury function. All derivative activity is carried out by specialist teams that have the appropriate skills, experience and supervision.These teams are subject to close financial and management control. The integrated supply and trading function maintains formal governance processes that provide oversight of market risk associated with trading activity. These processes meet generally accepted industry practice and reflect the principles of the Group of Thirty Global Derivatives Study recommendations. A policy and risk committee monitors and validates limits and risk exposures, reviews incidents and validates risk-related policies, methodologies and procedures. A commitments committee approves value-at-risk delegations, the trading of new products, instruments and strategies and material commitments. In addition, the integrated supply and trading function undertakes derivative activity for risk management purposes under a separate control framework as described more fully below. (a) Market risk Market risk is the risk or uncertainty arising from possible market price movements and their impact on the future performance of a business. The market price movements that the group is exposed to include oil, natural gas and power prices (commodity price risk), foreign currency exchange rates, interest rates, equity prices and other indices that could adversely affect the value of the group’s financial assets, liabilities or expected future cash flows. The group enters into derivatives in a well established entrepreneurial trading operation. In addition, the group has developed a control framework aimed at managing the volatility inherent in certain of its natural business exposures. In accordance with this control framework the group enters into various transactions using derivatives for risk management purposes. During recent periods of increased volatility in financial markets the group’s policies in relation to managing market risk continue to be appropriate and are outlined in further detail below. The group measures market risk exposure arising from its trading positions using value-at-risk techniques. These techniques are based on a variance/covariance model or a Monte Carlo simulation and make a statistical assessment of the market risk arising from possible future changes in market prices over a 24-hour period. The calculation of the range of potential changes in fair value takes into account a snapshot of the end-of-day exposures and the history of one-day price movements, together with the correlation of these price movements. The value-at-risk measure is supplemented by stress testing and tail risk analysis. The trading value-at-risk model is used for derivative financial instrument types such as: interest rate forward and futures contracts, swap agreements, options and swaptions; foreign exchange forward and futures contracts, swap agreements and options; and oil, natural gas and power price forwards, futures, swap agreements and options. Additionally, where physical commodities or non-derivative forward contracts are held as part of a trading position, they are also reflected in the value-at-risk model. For options, a linear approximation is included in the value-at-risk models when full revaluation is not possible. The value-at-risk table does not incorporate any of the group’s natural business exposures or any derivatives entered into to risk manage those exposures. Market risk exposure in respect of embedded derivatives is also not included in the value-at-risk table. Instead separate sensitivity analyses are disclosed below. Value-at-risk limits are in place for each trading activity and for the group’s trading activity in total. The board has delegated an overall limit of $100 million value at risk in support of this trading activity. The high and low values at risk indicated in the table below for each type of activity are independent of each other. Through the portfolio effect the high value at risk for the group as a whole is lower than the sum of the highs for the constituent parts. The potential movement in fair values is expressed to a 95% confidence interval. This means that, in statistical terms, one would expect to see a decrease in fair values greater than the trading value at risk on one occasion per month if the portfolio were left unchanged. Value at risk for 1 day at 95% confidence interval 2008 $ million 2007 Group trading Oil price trading Natural gas price trading Power price trading Currency trading Interest rate trading Other trading High Low Average Year end High Low Average Year end 76 69 50 14 4 7 5 20 12 12 3 – – 1 37 25 24 7 2 2 2 69 63 23 4 – 1 2 50 46 32 6 6 11 7 24 16 9 1 1 – – 35 26 16 3 3 5 2 38 34 15 5 2 2 1 (i) Commodity price risk The group’s integrated supply and trading function uses conventional financial and commodity instruments and physical cargoes available in the related commodity markets. Natural gas swaps, options and futures are used to mitigate price risk. Power trading is undertaken using a combination of over-the-counter forward contracts and other derivative contracts, including options and futures. This activity is on both a standalone basis and in conjunction with gas derivatives in relation to gas-generated power margin. In addition, NGLs are traded around certain US inventory locations using over-the-counter forward contracts in conjunction with over-the-counter swaps, options and physical inventories. Trading value-at-risk information in relation to these activities is shown in the table above. 143 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 28. Financial instruments and financial risk factors continued As described above, the group also carries out risk management of certain short-term natural business exposures using over-the-counter swaps and exchange futures contracts with a duration of less than three years. In past periods commodity price risk relating to this activity has been managed using value-at-risk measures. For 2008 a separate control framework is now used as described under market risk above. For these derivative contracts the sensitivity of the net fair value to an immediate 10% increase or decrease in all reference prices would have been $90 million at 31 December 2008. This figure does not include any corresponding economic benefit or disbenefit that would arise from the natural business exposure which would be expected to largely offset the gain or loss on the derivatives. In addition, the group has embedded derivatives relating to certain natural gas and crude oil contracts. The net fair value of these embedded derivatives was a liability of $1,867 million at 31 December 2008 (2007 liability of $2,085 million). Key information on the natural gas contracts is given below. At 31 December Remaining contract terms Contractual/notional amount Discount rate – nominal risk free 2008 1 year 9 months to 9 years 9 months 3,585 million therms 2.5% 2007 9 months to 11 years 3,889 million therms 4.5% For these embedded derivatives the sensitivity of the net fair value to an immediate 10% favourable or unfavourable change in the key assumptions is as follows. At 31 December Favourable 10% change Unfavourable 10% change Gas price Oil price Power price 291 (289) 81 (81) 27 (27) 2008 Discount rate 16 (16) Gas price Oil price Power price 317 (368) 72 (84) 37 (34) $ million 2007 Discount rate 31 (32) The sensitivities for risk management activity and embedded derivatives are hypothetical and should not be considered to be predictive of future performance. In addition, for the purposes of this analysis, in the above table, the effect of a variation in a particular assumption on the fair value of the embedded derivatives is calculated independently of any change in another assumption. In reality, changes in one factor may contribute to changes in another, which may magnify or counteract the sensitivities. Furthermore, the estimated fair values as disclosed should not be considered indicative of future earnings on these contracts. (ii) Foreign currency exchange risk Where the group enters into foreign currency exchange contracts for entrepreneurial trading purposes the activity is controlled using trading value-at- risk techniques as explained above. This activity is described as currency trading in the value-at-risk table above. Since BP has global operations, fluctuations in foreign currency exchange rates can have significant effects on the group’s reported results. The effects of most exchange rate fluctuations are absorbed in business operating results through changing cost competitiveness, lags in market adjustment to movements in rates and conversion differences accounted for on specific transactions. For this reason, the total effect of exchange rate fluctuations is not identifiable separately in the group’s reported results. The main underlying economic currency of the group’s cash flows is the US dollar. This is because BP’s major product, oil, is priced internationally in US dollars. BP’s foreign currency exchange management policy is to minimize economic and material transactional exposures arising from currency movements against the US dollar. The group co-ordinates the handling of foreign currency exchange risks centrally, by netting off naturally-occurring opposite exposures wherever possible, and then dealing with any material residual foreign currency exchange risks. The group manages these exposures by constantly reviewing the foreign currency economic value at risk and managing such risk to keep the 12-month foreign currency value at risk below $200 million. At 31 December 2008, the foreign currency value at risk was $70 million (2007 $60 million). At no point over the past three years did the value at risk exceed the maximum risk limit. The most significant exposures relate to capital expenditure commitments and other UK and European operational requirements, for which a hedging programme is in place and hedge accounting is claimed as outlined in Note 34. For highly probable forecast capital expenditures the group locks in the US-dollar cost of non-US dollar supplies by using currency forwards and futures. The main exposures are sterling, euro, Norwegian krone, Australian dollar, Korean won and Canadian dollar, and at 31 December 2008 open contracts were in place for $949 million sterling, $553 million euro, $392 million Norwegian krone, $303 million Australian dollar, $187 million Korean won and $712 million Canadian dollar capital expenditures maturing within seven years, with over 65% of the deals maturing within two years (2007 $732 million sterling, $931 million euro, $479 million Norwegian krone, $38 million Australian dollar, $243 million Korean won and $7 million Canadian dollar capital expenditures maturing within eight years with over 80% of the deals maturing within two years). For other UK, European, Canadian and Australian operational requirements the group uses cylinders and currency forwards to hedge the estimated exposures on a 12-month rolling basis. At 31 December 2008, the open positions relating to cylinders consisted of receive sterling, pay US dollar, purchased call and sold put options (cylinders) for $1,660 million (2007 $2,800 million); receive euro, pay US dollar cylinders for $1,612 million (2007 $1,400 million); receive Canadian dollar, pay US dollar cylinders for $250 million (2007 nil); and receive Australian dollar, pay US dollar cylinders for $455 million (2007 $382 million). At 31 December 2008, the open positions relating to currency forwards consisted of buy sterling, sell US dollar, currency forwards for $816 million (2007 nil); buy euro, sell US dollar currency forwards for $141 million (2007 nil); buy Canadian dollar, sell US dollar, currency forwards for $50 million (2007 nil); and buy Australian dollar, sell US dollar, currency forwards for $90 million (2007 nil). In addition, most of the group’s borrowings are in US dollars or are hedged with respect to the US dollar. At 31 December 2008, the total foreign currency net borrowings not swapped into US dollars amounted to $1,037 million (2007 $1,045 million). Of this total, $92 million was denominated in currencies other than the functional currency of the individual operating unit being entirely Canadian dollars (2007 $268 million, being $191 million in Canadian dollars and $77 million in Trinidad & Tobago dollars). It is estimated that a 10% change in the corresponding exchange rates would result in an exchange gain or loss in the income statement of $9 million (2007 $27 million). 144 BP Annual Report and Accounts 2008 Notes on financial statements 28. Financial instruments and financial risk factors continued (iii) Interest rate risk Where the group enters into money market contracts for entrepreneurial trading purposes the activity is controlled using value-at-risk techniques as described above. This activity is described as interest rate trading in the value-at-risk table above. BP is also exposed to interest rate risk from the possibility that changes in interest rates will affect future cash flows or the fair values of its financial instruments, principally finance debt. While the group issues debt in a variety of currencies based on market opportunities, it uses derivatives to swap the debt to a US dollar floating rate exposure but in certain defined circumstances maintains a fixed rate exposure for a proportion of debt. The proportion of floating rate debt net of interest rate swaps at 31 December 2008 was 72% of total finance debt outstanding (2007 68%). The weighted average interest rate on finance debt at 31 December 2008 is 3% (2007 5%) and the weighted average maturity of fixed rate debt is three years (2007 two years). The group’s earnings are sensitive to changes in interest rates on the floating rate element of the group’s finance debt. If the interest rates applicable to floating rate instruments were to have increased by 1% on 1 January 2009, it is estimated that the group’s profit before taxation for 2009 would decrease by approximately $239 million (2007 $168 million decrease in 2008). This assumes that the amount and mix of fixed and floating rate debt, including finance leases, remains unchanged from that in place at 31 December 2008 and that the change in interest rates is effective from the beginning of the year. Where the interest rate applicable to an instrument is reset during a quarter it is assumed that this occurs at the beginning of the quarter and remains unchanged for the rest of the year. In reality, the fixed/floating rate mix will fluctuate over the year and interest rates will change continually. Furthermore, the effect on earnings shown by this analysis does not consider the effect of any other changes in general economic activity that may accompany such an increase in interest rates. (iv) Equity price risk The group holds equity investments, typically made for strategic purposes, that are classified as non-current available-for-sale financial assets and are measured initially at fair value with changes in fair value recognized directly in equity. Accumulated fair value changes are recycled to the income statement on disposal, or when the investment is impaired. Impairment losses of $546 million have been recognized in 2008 relating to listed non- current available-for-sale investments. For further information see Note 29. At 31 December 2008, it is estimated that an increase of 10% in quoted equity prices would result in an immediate credit to equity of $59 million (2007 $162 million credit to equity), whilst a decrease of 10% in quoted equity prices would result in an immediate charge to profit or loss of $48 million and a charge to equity of $11 million (2007 $162 million charge to equity). At 31 December 2008, 56% (2007 70%) of the carrying amount of non-current available-for-sale financial assets represented the group’s stake in Rosneft, thus the group’s exposure is concentrated on changes in the share price of this equity in particular. (b) Credit risk Credit risk is the risk that a customer or counterparty to a financial instrument will fail to perform or fail to pay amounts due causing financial loss to the group and arises from cash and cash equivalents, derivative financial instruments and deposits with financial institutions and principally from credit exposures to customers relating to outstanding receivables. The group has a credit policy, approved by the CFO, that is designed to ensure that consistent processes are in place throughout the group to measure and control credit risk. Credit risk is considered as part of the risk-reward balance of doing business. On entering into any business contract the extent to which the arrangement exposes the group to credit risk is considered. Key requirements of the policy are formal delegated authorities to the sales and marketing teams to incur credit risk and to a specialized credit function to set counterparty limits; the establishment of credit systems and processes to ensure that counterparties are rated and limits set; and systems to monitor exposure against limits and report regularly on those exposures, and immediately on any excesses, and to track and report credit losses. The treasury function provides a similar credit risk management activity with respect to group-wide exposures to banks and other financial institutions. In the current economic environment the group has placed increased emphasis on the management of credit risk. Policies and processes have been reviewed during the year and credit exposures with banks and others have been reduced through netting and collateral arrangements, or reduced activity where appropriate. Before trading with a new counterparty can start, its creditworthiness is assessed and a credit rating is allocated that indicates the probability of default, along with a credit exposure limit. The assessment process takes into account all available qualitative and quantitative information about the counterparty and the group, if any, to which the counterparty belongs. The counterparty’s business activities, financial resources and business risk management processes are taken into account in the assessment, to the extent that this information is publicly available or otherwise disclosed to the group by the counterparty, together with external credit ratings, if any, including ratings prepared by Moody’s Investor Service and Standard & Poor’s. Creditworthiness continues to be evaluated after transactions have been initiated and a watchlist of higher-risk counterparties is maintained. Once assigned a credit rating, each counterparty is allocated a maximum exposure limit. The group does not aim to remove credit risk but expects to experience a certain level of credit losses. The group attempts to mitigate credit risk by entering into contracts that permit netting and allow for termination of the contract on the occurrence of certain events of default. Depending on the creditworthiness of the counterparty, the group may require collateral or other credit enhancements such as cash deposits or letters of credit and parent company guarantees. Trade and other derivative assets and liabilities are presented on a net basis where unconditional netting arrangements are in place with counterparties and where there is an intent to settle amounts due on a net basis. The maximum credit exposure associated with financial assets is equal to the carrying amount. At 31 December 2008, the maximum credit exposure was $52,413 million (2007 $53,498 million). Collateral received and recognized in the balance sheet at the year-end was $1,121 million (2007 $39 million) and collateral held off balance sheet was $203 million (2007 $474 million). Credit exposure exists in relation to guarantees issued by group companies under which amounts outstanding at 31 December 2008 were $223 million (2007 $443 million) in respect of liabilities of jointly controlled entities and associates and $613 million (2007 $601 million) in respect of liabilities of other third parties. 145 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 28. Financial instruments and financial risk factors continued Notwithstanding the processes described above, significant unexpected credit losses can occasionally occur. Exposure to unexpected losses increases with concentrations of credit risk that exist when a number of counterparties are involved in similar activities or operate in the same industry sector or geographical area, which may result in their ability to meet contractual obligations being impacted by changes in economic, political or other conditions. The group’s principal customers, suppliers and financial institutions with which it conducts business are located throughout the world. In addition, these risks are managed by maintaining a group watchlist and aggregating multi-segment exposures to ensure that a material credit risk is not missed. Reports are regularly prepared and presented to the GFRC that cover the group’s overall credit exposure and expected loss trends, exposure by segment, and overall quality of the portfolio. The reports also include details of the largest counterparties by exposure level and expected loss, and details of counterparties on the group watchlist. It is estimated that over 80% (2007 80%) of the counterparties to the contracts comprising the derivative financial instruments in an asset position are of investment grade credit quality. Trade and other receivables of the group are analysed in the table below. By comparing the BP credit ratings to the equivalent external credit ratings, it is estimated that approximately 60-65% (2007 65-70%) of the trade receivables portfolio exposure are of investment grade quality. With respect to the trade and other receivables that are neither impaired nor past due, there are no indications as of the reporting date that the debtors will not meet their payment obligations. The group does not typically renegotiate the terms of trade receivables; however, if a renegotiation does take place, the outstanding balance is included in the analysis based on the original payment terms. There were no significant renegotiated balances outstanding at 31 December 2008 or 31 December 2007. Trade and other receivables at 31 December Neither impaired nor past due Impaired (net of valuation allowance) Not impaired and past due in the following periods within 30 days 31 to 60 days 61 to 90 days over 90 days The movement in the valuation allowance for trade receivables is set out below. At 1 January Exchange adjustments Charge for the year Utilization At 31 December 2008 25,838 73 1,323 489 596 1,170 29,489 2008 406 (32) 191 (174) 391 $ million 2007 35,167 145 2,350 273 311 464 38,710 $ million 2007 421 34 175 (224) 406 (c) Liquidity risk Liquidity risk is the risk that suitable sources of funding for the group’s business activities may not be available. The group’s liquidity is managed centrally with operating units forecasting their cash and currency requirements to the central treasury function. Unless restricted by local regulations, subsidiaries pool their cash surpluses to treasury, which will then arrange to fund other subsidiaries’ requirements, or invest any net surplus in the market or arrange for necessary external borrowings, while managing the group’s overall net currency positions. In managing its liquidity risk, the group has access to a wide range of funding at competitive rates through capital markets and banks. The group’s treasury function centrally co-ordinates relationships with banks, borrowing requirements, foreign exchange requirements and cash management. The group believes it has access to sufficient funding through the commercial paper markets and by using undrawn committed borrowing facilities to meet foreseeable borrowing requirements. At 31 December 2008, the group had substantial amounts of undrawn borrowing facilities available, including committed facilities of $4,950 million, of which $4,550 million are in place until at least the fourth quarter of 2011 (2007 $4,950 million, of which $4,550 million are in place until at least the fourth quarter of 2011). These facilities are with a number of international banks and borrowings under them would be at pre-agreed rates. The group has in place a European Debt Issuance Programme (DIP) under which the group may raise $20 billion of debt for maturities of one month or longer. At 31 December 2008, the amount drawn down against the DIP was $10,334 million (2007 $10,438 million). In addition, the group has in place a US Shelf Registration under which it may raise $10 billion of debt with maturities of one month or longer. At 31 December 2008, the amount drawn down under the US Shelf was $6,500 million (2007 $2,500 million). The group has long-term debt ratings of Aa1 (stable outlook) and AA (stable outlook), (2007 Aa1 (stable outlook) and AA+ (negative outlook)) assigned respectively by Moody’s and Standard and Poor’s. Despite current uncertainty in the financial market including a lack of liquidity for some borrowers, we have been able to issue $5 billion of long-term debt in the fourth quarter of 2008. In addition, we have been able to issue short-term commercial paper at competitive rates. In the context of unforeseen market volatility, we have however, increased the cash and cash equivalents held by the group to $8.2 billion at the end of 2008 compared with $3.6 billion at the end of 2007. The amounts shown for finance debt in the table below include expected interest payments on borrowings and the future minimum lease payments with respect to finance leases. 146 BP Annual Report and Accounts 2008 Notes on financial statements 28. Financial instruments and financial risk factors continued There are amounts included within finance debt that we show in the table below as due within one year to reflect the earliest contractual repayment dates but that are expected to be repaid over the maximum long-term maturity profiles of the contracts as described in Note 35. US Industrial Revenue/Municipal Bonds of $3,166 million (2007 $2,880 million) with earliest contractual repayment dates within one year have expected repayment dates ranging from 1 to 40 years (2007 1 to 35 years). The bondholders typically have the option to tender these bonds for repayment on interest reset dates; however, any bonds that are tendered are usually remarketed and BP has not experienced any significant repurchases. BP considers these bonds to represent long-term funding when internally assessing the maturity profile of its finance debt. Similar treatment is applied for loans associated with long-term gas supply contracts totalling $1,806 million (2007 $1,899 million) that mature within nine years. The table also shows the timing of cash outflows relating to trade and other payables and accruals. At 31 December Within one year 1 to 2 years 2 to 3 years 3 to 4 years 4 to 5 years 5 to 10 years Over 10 years Trade and other payables 30,598 402 898 902 223 53 64 33,140 Accruals 6,743 359 77 72 67 164 45 7,527 2008 Finance debt 16,670 5,934 3,419 2,647 5,072 1,316 1,050 36,108 Trade and other payables 39,576 147 62 26 30 197 24 40,062 $ million 2007 Finance debt 16,561 8,011 3,515 1,447 2,352 1,100 1,447 34,433 Accruals 6,640 351 245 78 49 200 36 7,599 The group manages liquidity risk associated with derivative contracts on a portfolio basis, considering both physical commodity sale and purchase contracts together with financially-settled derivative assets and liabilities. The held-for-trading derivatives amounts in the table below represent the total contractual cash outflows by period for the purchases of physical commodities under derivative contracts and the estimated cash outflows of financially-settled derivative liabilities. The group also holds derivative contracts for the sale of physical commodities and financially-settled derivative assets that are expected to generate cash inflows that will be available to the group to meet cash outflows on purchases and liabilities. These contracts are excluded from the table below. The amounts disclosed for embedded derivatives represent the contractual cash outflows of purchase contracts some of which have embedded derivatives associated with them which are financial assets. At 31 December Within one year 1 to 2 years 2 to 3 years 3 to 4 years 4 to 5 years 5 to 10 years Over 10 years 2008 Held-for- trading derivatives 60,270 8,189 2,437 1,111 841 2,087 553 75,488 Embedded derivatives 562 403 470 509 535 1,538 – 4,017 Embedded derivatives 699 659 641 627 624 2,342 – 5,592 $ million 2007 Held-for- trading derivatives 82,465 8,541 2,906 707 338 592 447 95,996 s t n e m e t a t s l i a c n a n F i The table below shows cash outflows for derivative hedging instruments based upon contractual payment dates. The amounts reflect the maturity profile of the fair value liability where the instruments will be settled net, and the gross settlement amount where the pay leg of a derivative will be settled separately to the receive leg, as in the case of cross-currency interest rate swaps hedging non-US dollar finance debt. The swaps are with high investment-grade counterparties and therefore the settlement day risk exposure is considered to be negligible. At 31 December Within one year 1 to 2 years 2 to 3 years 3 to 4 years 4 to 5 years 5 to 10 years 2008 3,426 3,024 1,037 1,731 1,389 129 10,736 $ million 2007 1,708 1,220 3,759 365 1,650 105 8,807 147 BP Annual Report and Accounts 2008 Notes on financial statements 29. Other investments Listed Unlisted 2008 592 263 855 $ million 2007 1,617 213 1,830 Other investments comprise equity investments that have no fixed maturity date or coupon rate. These investments are classified as available-for-sale financial assets and as such are recorded at fair value with the gain or loss arising as a result of changes in fair value recorded directly in equity. Accumulated fair value changes are recycled to the income statement on disposal, or when the investment is impaired. The fair value of listed investments has been determined by reference to quoted market bid prices. Unlisted investments are stated at cost less accumulated impairment losses. The most significant investment is the group’s stake in Rosneft which had a fair value of $483 million at 31 December 2008 (2007 $1,285 million). During 2008, an impairment loss of $517 million was recognized relating to the Rosneft investment (see Note 11), $29 million relating to other listed investments and $17 million relating to unlisted investments (2007 $80 million relating to unlisted investments). 30. Inventories Crude oil Natural gas Refined petroleum and petrochemical products Supplies Trading inventories Cost of inventories expensed in the income statement 2008 4,396 107 9,318 13,821 1,588 15,409 1,412 16,821 266,982 $ million 2007 8,157 160 14,723 23,040 1,517 24,557 1,997 26,554 200,766 The inventory valuation at 31 December 2008 is stated net of a provision of $1,412 million (2007 $117 million) to write inventories down to their net realizable value. The net movement in the provision during the year was a charge of $1,295 million (2007 $86 million credit). 31. Trade and other receivables Financial assets Trade receivables Amounts receivable from jointly controlled entities Amounts receivable from associates Other receivables Non-financial assets Other receivables Trade and other receivables are predominantly non-interest bearing. 2008 $ million 2007 Current Non-current Current Non-current 22,869 1,035 219 4,656 28,779 482 29,261 – – – 710 710 – 710 33,012 888 380 3,462 37,742 278 38,020 – – – 968 968 – 968 148 BP Annual Report and Accounts 2008 Notes on financial statements 32. Cash and cash equivalents Cash at bank and in hand Cash equivalents Listed Unlisted 2008 4,001 4,060 136 8,197 $ million 2007 2,996 3 563 3,562 Cash and cash equivalents comprise cash in hand; current balances with banks and similar institutions; and short-term highly liquid investments that are readily convertible to known amounts of cash, are subject to insignificant risk of changes in value and have a maturity of three months or less from the date of acquisition. Cash and cash equivalents at 31 December 2008 includes $2,133 million (2007 $1,294 million) that is restricted. This relates principally to amounts on deposit to cover initial margins on trading exchanges. 33. Trade and other payables Financial liabilities Trade payables Amounts payable to jointly controlled entities Amounts payable to associates Other payables Non-financial liabilities Production and similar taxes Other payables Trade and other payables are predominantly interest free. 2008 $ million 2007 Current Non-current Current Non-current 20,129 292 295 9,882 30,598 445 2,601 3,046 33,644 – 2,255 – 287 2,542 538 – 538 3,080 30,735 66 650 8,125 39,576 803 2,773 3,576 43,152 – – – 486 486 765 – 765 1,251 s t n e m e t a t s l i a c n a n F i 149 BP Annual Report and Accounts 2008 Notes on financial statements 34. Derivative financial instruments An outline of the group’s financial risks and the objectives and policies pursued in relation to those risks is set out in Note 28. IAS 39 prescribes strict criteria for hedge accounting, whether as a cash flow or fair value hedge or a hedge of a net investment in a foreign operation, and requires that any derivative that does not meet these criteria should be classified as held for trading and fair valued, with gains and losses recognized in profit or loss. In the normal course of business the group enters into derivative financial instruments (derivatives) to manage its normal business exposures in relation to commodity prices, foreign currency exchange rates and interest rates, including management of the balance between floating rate and fixed rate debt, consistent with risk management policies and objectives. Additionally, the group has a well-established entrepreneurial trading operation that is undertaken in conjunction with these activities using a similar range of contracts. The fair values of derivative financial instruments at 31 December are set out below. Derivatives held for trading Currency derivatives Oil price derivatives Natural gas price derivatives Power price derivatives Other derivatives Embedded derivatives Commodity contracts Interest rate contracts Cash flow hedges Currency forwards, futures and cylinders Cross-currency interest rate swaps Fair value hedges Cross-currency interest rate swaps Interest rate swaps Hedges of net investments in foreign operations Of which – current – non-current Fair value asset 278 3,813 6,945 978 90 12,104 397 – 397 120 109 229 465 367 832 2 13,564 8,510 5,054 2008 Fair value liability (273) (3,523) (6,113) (904) (96) (10,909) (2,264) – (2,264) (1,175) (558) (1,733) (342) – (342) – (15,248) (8,977) (6,271) $ million 2007 Fair value liability (317) (3,432) (4,022) (1,140) – (8,911) (2,340) (33) (2,373) (45) (52) (97) Fair value asset 147 3,214 4,388 1,121 30 8,900 255 – 255 226 122 348 430 89 519 40 10,062 6,321 3,741 (9) (17) (26) – (11,407) (6,405) (5,002) Derivatives held for trading The group maintains active trading positions in a variety of derivatives. The contracts may be entered into for risk management purposes, to satisfy supply requirements or for entrepreneurial trading. Certain contracts are classified as held for trading, regardless of their original business objective, and are recognized at fair value with changes in fair value recognized in the income statement. Trading activities are undertaken by using a range of contract types in combination to create incremental gains by arbitraging prices between markets, locations and time periods. The net of these exposures is monitored using market value-at-risk techniques as described in Note 28. The following tables show further information on the fair value of derivatives and other financial instruments held for trading purposes. Changes during the year in the net fair value of derivatives held for trading purposes were as follows. Fair value of contracts at 1 January 2008 Contracts realized or settled in the year Fair value of options at inception Fair value of other new contracts entered into during the year Changes in fair values relating to price Exchange adjustments Fair value of contracts at 31 December 2008 Currency (170) 24 – – 151 – 5 Oil price (218) 190 (216) 66 468 – 290 Natural gas price Power price 366 (216) (201) 49 881 (47) 832 (19) 3 34 – 60 (4) 74 $ million Total (11) (14) (383) 115 1,539 (51) 1,195 Other 30 (15) – – (21) – (6) 150 BP Annual Report and Accounts 2008 Notes on financial statements 34. Derivative financial instruments continued Fair value of contracts at 1 January 2007 Contracts realized or settled in the year Fair value of options at inception Fair value of other new contracts entered into during the year Changes in fair values relating to price Exchange adjustments Fair value of contracts at 31 December 2007 Oil price 296 (289) 28 – (253) – (218) Natural gas price Power price Other Total $ million 855 (602) 168 1 (58) 2 366 42 (68) 36 – (20) (9) (19) 113 (83) – – – – 30 1,411 (1,151) 232 1 (498) (6) (11) Currency 105 (109) – – (167) 1 (170) If at inception of a contract the valuation cannot be supported by observable market data, any gain determined by the valuation methodology is not recognized in the income statement but is deferred on the balance sheet and is commonly known as ‘day-one profit’. This deferred gain is recognized in the income statement over the life of the contract until substantially all of the remaining contract term can be valued using observable market data at which point any remaining deferred gain is recognized in income. Changes in valuation from this initial valuation are recognized immediately through income. The following table shows the changes in the day-one profits deferred on the balance sheet. Fair value of contracts not recognized through the income statement at 1 January Fair value of new contracts at inception not recognized in the income statement Fair value recognized in the income statement Fair value of contracts not recognized through profit at 31 December Derivative assets held for trading have the following fair values and maturities. 2008 Natural gas price 36 49 (2) 83 Oil price – 66 (34) 32 Oil price – – – – Currency derivatives Oil price derivatives Natural gas price derivatives Power price derivatives Other derivatives Currency derivatives Oil price derivatives Natural gas price derivatives Power price derivatives Other derivatives Less than 1 year 53 3,368 3,940 688 90 8,139 Less than 1 year 123 2,545 2,170 819 12 5,669 1-2 years 2-3 years 3-4 years 4-5 years 90 353 1,090 256 – 1,789 67 61 545 31 – 704 37 11 436 1 – 485 20 11 271 2 – 304 1-2 years 2-3 years 3-4 years 4-5 years 10 471 677 250 18 1,426 6 113 333 52 – 504 5 39 283 – – 327 1 26 216 – – 243 Derivative liabilities held for trading have the following fair values and maturities. Currency derivatives Oil price derivatives Natural gas price derivatives Power price derivatives Other derivatives Less than 1 year (257) (3,001) (3,484) (722) (95) (7,559) 1-2 years 2-3 years 3-4 years 4-5 years – (458) (987) (159) (1) (1,605) (2) (36) (438) (18) – (494) (1) (18) (310) (4) – (333) (13) (9) (283) (1) – (306) Over 5 years 11 9 663 – – 683 Over 5 years 2 20 709 – – 731 Over 5 years – (1) (611) – – (612) $ million 2007 Natural gas price 36 1 (1) 36 $ million 2008 Total 278 3,813 6,945 978 90 12,104 $ million 2007 Total 147 3,214 4,388 1,121 30 8,900 $ million 2008 Total (273) (3,523) (6,113) (904) (96) (10,909) 151 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 34. Derivative financial instruments continued Currency derivatives Oil price derivatives Natural gas price derivatives Power price derivatives Less than 1 year (145) (2,735) (2,089) (832) (5,801) 1-2 years 2-3 years 3-4 years 4-5 years (99) (512) (527) (246) (1,384) (32) (135) (298) (61) (526) (16) (25) (219) (1) (261) (15) (22) (185) – (222) $ million 2007 Total (317) (3,432) (4,022) (1,140) (8,911) Over 5 years (10) (3) (704) – (717) The following table shows the fair value of derivative assets held for trading, analysed by maturity period and by methodology of fair value estimation. Prices actively quoted Prices sourced from observable data or market corroboration Prices based on models and other valuation methods Prices actively quoted Prices sourced from observable data or market corroboration Prices based on models and other valuation methods Less than 1 year 40 7,628 471 8,139 Less than 1 year 169 5,417 83 5,669 1-2 years 2-3 years 3-4 years 4-5 years 43 1,614 132 1,789 30 553 121 704 7 361 117 485 6 190 108 304 1-2 years 2-3 years 3-4 years 4-5 years 53 1,174 199 1,426 49 363 92 504 3 225 99 327 – 140 103 243 $ million 2008 Total 128 10,402 1,574 12,104 $ million 2007 Total 276 7,319 1,305 8,900 Over 5 years 2 56 625 683 Over 5 years 2 – 729 731 The following table shows the fair value of derivative liabilities held for trading, analysed by maturity period and by methodology of fair value estimation. Prices actively quoted Prices sourced from observable data or market corroboration Prices based on models and other valuation methods Prices actively quoted Prices sourced from observable data or market corroboration Prices based on models and other valuation methods Less than 1 year (227) (6,997) (335) (7,559) Less than 1 year (50) (5,629) (122) (5,801) 1-2 years 2-3 years 3-4 years 4-5 years – (1,482) (123) (1,605) (2) (365) (127) (494) – (209) (124) (333) (13) (182) (111) (306) 1-2 years 2-3 years 3-4 years 4-5 years (50) (1,116) (218) (1,384) – (420) (106) (526) (1) (143) (117) (261) (9) (103) (110) (222) $ million 2008 Total (242) (9,262) (1,405) (10,909) $ million 2007 Total (111) (7,411) (1,389) (8,911) Over 5 years – (27) (585) (612) Over 5 years (1) – (716) (717) Prices actively quoted refers to the fair value of contracts valued solely using quoted prices in an active market. Prices sourced from observable data or market corroboration refers to the fair value of contracts valued in part using active quotes and in part using observable, market-corroborated data, for example, swaps and physical forward contracts. Prices based on models and other valuation methods refers to the fair value of a contract valued in part using internal models due to the absence of quoted prices, including over-the-counter options. The net change in fair value of contracts based on models and other valuation methods during the year was a gain of $253 million (2007 $94 million loss and 2006 $117 million loss). Gains and losses relating to derivative contracts are included either within sales and other operating revenues or within purchases in the income statement depending upon the nature of the activity and type of contract involved. The contract types treated in this way include futures, options, swaps and certain forward sales and forward purchases contracts. Gains or losses arise on contracts entered into for risk management purposes, optimization activity and entrepreneurial trading. They also arise on certain contracts that are for normal procurement or sales activity for the group but that are required to be fair valued under accounting standards. Also included within sales and other operating revenues are gains and losses on inventory held for trading purposes. The total amount relating to all of these items was a gain of $6,721 million (2007 $376 million gain and 2006 $2,842 million gain). 152 BP Annual Report and Accounts 2008 Notes on financial statements 34. Derivative financial instruments continued Embedded derivatives Prior to the development of an active gas trading market, UK gas contracts were priced using a basket of available price indices, primarily relating to oil products, power and inflation. After the development of an active UK gas market, certain contracts were entered into or renegotiated using pricing formulae not directly related to gas prices, for example, oil product and power prices. In these circumstances, pricing formulae have been determined to be derivatives, embedded within the overall contractual arrangements that are not clearly and closely related to the underlying commodity. The resulting fair value relating to these contracts is recognized on the balance sheet with gains or losses recognized in the income statement. All the embedded derivatives are valued using inputs that include price curves for each of the different products that are built up from active market pricing data. Where necessary, these are extrapolated to the expiry of the contracts (the last of which is in 2018) using all available external pricing information. Additionally, where limited data exists for certain products, prices are interpolated using historic and long-term pricing relationships. The following table shows the changes during the year in the net fair value of embedded derivatives. Fair value of contracts at 1 January Contracts realized or settled in the year Changes in valuation techniques or key assumptions Changes in fair values relating to price Exchange adjustments Fair value of contracts at 31 December Embedded derivative assets have the following fair values and maturities. Commodity price Interest rate (2,085) 294 – (928) 852 (1,867) (33) 38 – (5) – – 2008 Total (2,118) 332 – (933) 852 (1,867) (2,064) 449 130 (567) (33) (2,085) Commodity price Interest rate Commodity price embedded derivatives 50 116 75 45 36 Less than 1 year 1-2 years 2-3 years 3-4 years 4-5 years Commodity price embedded derivatives Less than 1 year 193 1-2 years 2-3 years 3-4 years 4-5 years 18 15 7 10 Embedded derivative liabilities have the following fair values and maturities. Less than 1 year 1-2 years 2-3 years 3-4 years 4-5 years s t n e m e t a t s l i a c n a n F i Commodity price embedded derivatives (404) (322) (365) (303) (271) (599) (2,264) Commodity price embedded derivatives Interest rate embedded derivatives Less than 1 year (554) (33) (587) 1-2 years 2-3 years 3-4 years 4-5 years (437) – (437) (299) – (299) (244) – (244) (219) – (219) $ million 2007 Total (2,340) (33) (2,373) Over 5 years (587) – (587) 153 $ million 2007 Total (2,090) 449 130 (574) (33) (2,118) $ million 2008 Total 397 $ million 2007 Total 255 $ million 2008 Total (26) – – (7) – (33) Over 5 years 75 Over 5 years 12 Over 5 years BP Annual Report and Accounts 2008 Notes on financial statements 34. Derivative financial instruments continued Embedded derivative assets have the following fair values when analysed by maturity period and by methodology of fair value estimation. Prices actively quoted Prices sourced from observable data or market corroboration Prices based on models and other valuation methods Prices actively quoted Prices sourced from observable data or market corroboration Prices based on models and other valuation methods Less than 1 year – 35 15 50 Less than 1 year – 61 132 193 1-2 years 2-3 years 3-4 years 4-5 years – – 116 116 – – 75 75 – – 45 45 – – 36 36 1-2 years 2-3 years 3-4 years 4-5 years – – 18 18 – – 15 15 – – 7 7 – – 10 10 Over 5 years – – 75 75 Over 5 years – – 12 12 Embedded derivative liabilities have the following fair values when analysed by maturity period and by methodology of fair value estimation. Prices actively quoted Prices sourced from observable data or market corroboration Prices based on models and other valuation methods Prices actively quoted Prices sourced from observable data or market corroboration Prices based on models and other valuation methods Less than 1 year – (10) (394) (404) Less than 1 year – – (587) (587) 1-2 years 2-3 years 3-4 years 4-5 years – – (322) (322) – – (365) (365) – – (303) (303) – – (271) (271) 1-2 years 2-3 years 3-4 years 4-5 years – – (437) (437) – – (299) (299) – – (244) (244) – – (219) (219) Over 5 years – – (599) (599) Over 5 years – – (587) (587) The net change in fair value of contracts based on models and other valuation methods during the year is a gain of $287 million (2007 gain of $18 million and 2006 gain of $423 million). The fair value gain (loss) on embedded derivatives is shown below. $ million 2008 Total – 35 362 397 $ million 2007 Total – 61 194 255 $ million 2008 Total – (10) (2,254) (2,264) $ million 2007 Total – – (2,373) (2,373) Commodity price embedded derivatives Interest rate embedded derivatives Fair value (loss) gain 2008 (106) (5) (111) 2007 – (7) (7) $ million 2006 604 4 608 The fair value gain (loss) in the above table includes $496 million of exchange gains (2007 $12 million of exchange losses and 2006 $179 million of exchange losses) arising on contracts that are denominated in a currency other than the functional currency of the individual operating unit. 154 BP Annual Report and Accounts 2008 Notes on financial statements 34. Derivative financial instruments continued Cash flow hedges At 31 December 2008, the group held currency forwards and futures contracts and cylinders that were being used to hedge the foreign currency risk of highly probable forecast transactions, as well as cross-currency interest rate swaps to fix the US dollar interest rate and US dollar redemption value, with matching critical terms on the currency leg of the swap with the underlying non-US dollar debt issuance. Note 28 outlines the management of risk aspects for currency and interest rate risk. For cash flow hedges the group only claims for the intrinsic value on the currency with any fair value attributable to time value taken immediately to profit or loss. There were no highly probable transactions for which hedge accounting has been claimed that have not occurred and no significant element of hedge ineffectiveness requiring recognition in the income statement. For cash flow hedges the pre-tax amount removed from equity during the period and included in the income statement is a loss of $45 million (2007 gain of $74 million and 2006 gain of $93 million). Of this, a loss of $1 million is included in production and manufacturing expenses (2007 $143 million gain and 2006 $162 million gain) and a loss of $44 million is included in finance costs (2007 $69 million loss and 2006 $69 million loss). The amount removed from equity during the year and included in the carrying amount of non-financial assets was a gain of $38 million (2007 $40 million gain and 2006 $6 million gain). The amounts retained in equity at 31 December 2008 are expected to mature and affect the income statement by a $826 million loss in 2009, a loss of $92 million in 2010 and a loss of $182 million in 2011 and beyond. Fair value hedges At 31 December 2008, the group held interest rate and cross-currency interest rate swap contracts as fair value hedges of the interest rate risk on fixed rate debt issued by the group. The effectiveness of each hedge relationship is quantitatively assessed and demonstrated to continue to be highly effective. The gain on the hedging derivative instruments taken to the income statement in 2008 was $2 million (2007 $334 million gain and 2006 $257 million gain) offset by a loss on the fair value of the finance debt of $20 million (2007 $327 million loss and 2006 $257 million loss). The interest rate and cross-currency interest rate swaps have an average maturity of three to four years, (2007 one to two years) and are used to convert sterling, euro, Swiss franc and Australian dollar denominated borrowings into US dollar floating rate debt. Note 28 outlines the group’s approach to interest rate risk management. Hedges of net investments in foreign operations The group holds currency swap contracts as a hedge of a long-term investment in a UK subsidiary expiring in 2009. At 31 December 2008, the hedge had a fair value of $2 million (2007 $40 million) and the loss on the hedge recognized in equity in 2008 was $38 million (2007 $67 million loss and 2006 $105 million gain). US dollars have been sold forward for sterling purchased and match the underlying liability with no significant ineffectiveness reflected in the income statement. 35. Finance debt Borrowings Net obligations under finance leases Within 1 year a 15,647 93 15,740 After 1 year 16,937 527 17,464 2008 Total 32,584 620 33,204 Within 1 year a 15,149 245 15,394 After 1 year 15,004 647 15,651 $ million 2007 Total 30,153 892 31,045 aAmounts due within one year include current maturities of long-term debt and borrowings that are expected to be repaid later than the earliest contractual repayment dates of within one year. US Industrial Revenue/Municipal Bonds of $3,166 million (2007 $2,880 million) with earliest contractual repayment dates within one year have expected repayment dates ranging from 1 to 40 years (2007 1 to 35 years). The bondholders typically have the option to tender these bonds for repayment on interest reset dates; however, any bonds that are tendered are usually remarketed and BP has not experienced any significant repurchases. BP considers these bonds to represent long-term funding when internally assessing the maturity profile of its finance debt. Similar treatment is applied for loans associated with long-term gas supply contracts totalling $1,806 million (2007 $1,899 million) that mature within nine years. s t n e m e t a t s l i a c n a n F i 155 BP Annual Report and Accounts 2008 Notes on financial statements 35. Finance debt continued The following table shows, by major currency, the group’s finance debt at 31 December and the weighted average interest rates achieved at those dates through a combination of borrowings and derivative financial instruments entered into to manage interest rate and currency exposures. US dollar Sterling Euro Other currencies US dollar Sterling Euro Other currencies Fixed rate debt Floating rate debt Weighted average interest rate % Weighted average time for which rate is fixed Years 5 – 4 7 5 – 4 7 3 – 3 10 2 – 4 13 Weighted average interest rate % 2 6 4 7 5 6 5 7 Amount $ million 9,005 – 74 216 9,295 9,541 – 81 268 9,890 Amount $ million 22,116 21 1,330 442 23,909 20,460 35 107 553 21,155 Total $ million 2008 31,121 21 1,404 658 33,204 2007 30,001 35 188 821 31,045 Finance leases The group uses finance leases to acquire property, plant and equipment. These leases have terms of renewal but no purchase options and escalation clauses. Renewals are at the option of the lessee. Future minimum lease payments under finance leases are set out below. Future minimum lease payments payable within 1 year 2 to 5 years Thereafter Less finance charges Net obligations Of which – payable within 1 year – payable within 2 to 5 years – payable thereafter 2008 116 361 439 916 296 620 93 234 293 $ million 2007 268 393 630 1,291 399 892 245 217 430 Fair values The estimated fair value of finance debt is shown in the table below together with the carrying amount as reflected in the balance sheet. Long-term borrowings in the table below include the portion of debt that matures in the year from 31 December 2008, whereas in the balance sheet the amount would be reported within current liabilities. The carrying amount of the group’s short-term borrowings, comprising mainly commercial paper, bank loans, overdrafts and US Industrial Revenue/Municipal Bonds, approximates their fair value. The fair value of the group’s long-term borrowings and finance lease obligations is estimated using quoted prices or, where these are not available, discounted cash flow analyses based on the group’s current incremental borrowing rates for similar types and maturities of borrowing. Short-term borrowings Long-term borrowings Net obligations under finance leases Total finance debt 156 2008 Carrying amount 9,913 22,671 620 33,204 Fair value 9,913 23,239 638 33,790 Fair value 11,212 19,094 908 31,214 $ million 2007 Carrying amount 11,212 18,941 892 31,045 BP Annual Report and Accounts 2008 Notes on financial statements 36. Capital disclosures and analysis of changes in net debt The group defines capital as the total equity of the group. The group’s objective for managing capital is to deliver competitive, secure and sustainable returns to maximize long-term shareholder value. BP is not subject to any externally-imposed capital requirements. The group’s approach to managing capital is set out in its financial framework. The group aims to balance returns to shareholders between long-term growth and current returns via the dividend whilst maintaining capital discipline in relation to investing activities and taking action on costs to respond to the current environment. At the beginning of 2008, the group rebalanced returns to shareholders by increasing the dividend component. As a result, the share buyback programme was curtailed and then suspended in September in light of the uncertain environment. The group monitors capital on the basis of the net debt ratio, that is, the ratio of net debt to net debt plus equity. Net debt is calculated as gross finance debt, as shown in the balance sheet, plus the fair value of associated derivative financial instruments that are used to hedge foreign exchange and interest rate risks relating to finance debt, for which hedge accounting is claimed, less cash and cash equivalents. Net debt and net debt ratio are non-GAAP measures. BP uses these measures to provide useful information to investors. Net debt enables investors to see the economic effect of gross debt, related hedges and cash and cash equivalents in total. The net debt ratio enables investors to see how significant net debt is relative to equity from shareholders. The derivatives are reported on the balance sheet within the headings ‘Derivative financial instruments’. All components of equity are included in the denominator of the calculation. We believe that a net debt ratio in the range 20-30% provides an efficient capital structure and an appropriate level of financial flexibility. At 31 December 2008 the net debt ratio was 21% (2007 22%). At 31 December Gross debt Less: Cash and cash equivalents Less: Fair value (liability) asset of hedges related to finance debt Net debt Equity Net debt ratio An analysis of changes in net debt is provided below. Movement in net debt At 1 January Exchange adjustments Net cash flow Other movements At 31 December aIncluding fair value of associated derivative financial instruments. 2008 33,204 8,197 (34) 25,041 92,109 21% Finance debt a (30,379) 102 (2,825) (136) (33,238) Cash and cash equivalents 3,562 (184) 4,819 – 8,197 2008 Net debt (26,817) (82) 1,994 (136) (25,041) Finance debta (23,712) (122) (6,411) (134) (30,379) Cash and cash equivalents 2,590 135 837 – 3,562 $ million 2007 31,045 3,562 666 26,817 94,652 22% $ million 2007 Net debt (21,122) 13 (5,574) (134) (26,817) Revised definition of net debt Net debt has been redefined to include the fair value of associated derivative financial instruments that are used to hedge foreign exchange and interest rate risks relating to finance debt, for which hedge accounting is claimed. The derivatives are reported on the balance sheet within the headings ‘Derivative financial instruments’. Amounts for comparative periods are presented on a consistent basis. Net debt Equity Ratio of net debt to net debt plus equity $ million 2007 As amended As reported 26,817 94,652 22% 27,483 94,652 23% 157 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 37. Provisions At 1 January 2008 Exchange adjustments New or increased provisions Write-back of unused provisions Unwinding of discount Utilization Deletions At 31 December 2008 Of which – expected to be incurred within 1 year – expected to be incurred in more than 1 year At 1 January 2007 Exchange adjustments New or increased provisions Write-back of unused provisions Unwinding of discount Utilization Deletions At 31 December 2007 Of which – expected to be incurred within 1 year – expected to be incurred in more than 1 year Decommissioning Environmental 9,501 (1,208) 327 – 202 (402) (2) 8,418 322 8,096 2,107 (45) 270 (107) 43 (512) (65) 1,691 418 1,273 Decommissioning Environmental 8,365 168 1,163 – 195 (297) (93) 9,501 447 9,054 2,127 19 373 (151) 44 (305) – 2,107 431 1,676 Litigation and other 3,487 (107) 2,059 (513) 42 (1,424) – 3,544 805 2,739 Litigation and other 3,152 11 1,376 (196) 44 (899) (1) 3,487 1,317 2,170 $ million Total 15,095 (1,360) 2,656 (620) 287 (2,338) (67) 13,653 1,545 12,108 $ million Total 13,644 198 2,912 (347) 283 (1,501) (94) 15,095 2,195 12,900 The group makes full provision for the future cost of decommissioning oil and natural gas production facilities and related pipelines on a discounted basis on the installation of those facilities. The provision for the costs of decommissioning these production facilities and pipelines at the end of their economic lives has been estimated using existing technology, at current prices or long-term assumptions, depending on the expected timing of the activity, and discounted using a real discount rate of 2.0% (2007 2.0%). These costs are generally expected to be incurred over the next 30 years. While the provision is based on the best estimate of future costs and the economic lives of the facilities and pipelines, there is uncertainty regarding both the amount and timing of incurring these costs. Where BP has entered into a contract for the execution of decommissioning activity, these amounts are generally reported within accruals or other payables. Provisions for environmental remediation are made when a clean-up is probable and the amount of the obligation can be reliably estimated. Generally, this coincides with commitment to a formal plan of action or, if earlier, on divestment or on closure of inactive sites. The provision for environmental liabilities has been estimated using existing technology, at current prices and discounted using a real discount rate of 2.0% (2007 2.0%). The majority of these costs are expected to be incurred over the next 10 years. The extent and cost of future remediation programmes are inherently difficult to estimate. They depend on the scale of any possible contamination, the timing and extent of corrective actions, and also the group’s share of the liability. Included within the litigation and other category at 31 December 2008 are provisions for litigation of $1,446 million (2007 $1,737 million), for deferred employee compensation of $792 million (2007 $761 million) and for expected rental shortfalls on surplus properties of $251 million (2007 $320 million). To the extent that these liabilities are not expected to be settled within the next three years, the provisions are discounted using either a nominal discount rate of 2.5% (2007 4.5%) or a real discount rate of 2.0% (2007 2.0%), as appropriate. No additional provisions were made during 2008 in respect of the Texas City incident (in 2007 the provision was increased by $500 million). Disbursements to claimants in 2008 were $410 million (2007 $314 million) and the provision at 31 December 2008 was $46 million (2007 $456 million). 158 BP Annual Report and Accounts 2008 Notes on financial statements 38. Pensions and other post-retirement benefits Most group companies have pension plans, the forms and benefits of which vary with conditions and practices in the countries concerned. Pension benefits may be provided through defined contribution plans (money purchase schemes) or defined benefit plans (final salary and other types of schemes with committed pension payments). For defined contribution plans, retirement benefits are determined by the value of funds arising from contributions paid in respect of each employee. For defined benefit plans, retirement benefits are based on such factors as the employees’ pensionable salary and length of service. Defined benefit plans may be externally funded or unfunded. The assets of funded plans are generally held in separately administered trusts. In particular, the primary pension arrangement in the UK is a funded final salary pension plan that remains open to new employees. Retired employees draw the majority of their benefit as an annuity. In the US, a range of retirement arrangements is provided. These include a funded final salary pension plan for certain heritage employees and a cash balance arrangement for new hires. Retired US employees typically take their pension benefit in the form of a lump sum payment. US employees are also eligible to participate in a defined contribution (401k) plan in which employee contributions are matched with company contributions. The level of contributions to funded defined benefit plans is the amount needed to provide adequate funds to meet pension obligations as they fall due. During 2008, contributions of $6 million (2007 $524 million and 2006 $438 million) and $362 million (2007 $97 million and 2006 $181 million) were made to the UK plans and US plans respectively. In addition, contributions of $130 million (2007 $127 million and 2006 $136 million) were made to other funded defined benefit plans. The aggregate level of contributions in all countries in 2009 is expected to be approximately $500 million, and includes contributions that we expect to be required to make by law or under contractual agreements as well as an allowance for discretionary funding. Certain group companies, principally in the US, provide post-retirement healthcare and life insurance benefits to their retired employees and dependants. The entitlement to these benefits is usually based on the employee remaining in service until retirement age and completion of a minimum period of service. The plans are funded to a limited extent. The obligation and cost of providing pensions and other post-retirement benefits is assessed annually using the projected unit credit method. The date of the most recent actuarial review was 31 December 2008. The material financial assumptions used for estimating the benefit obligations of the various plans are set out below. The assumptions are reviewed by management at the end of each year, and are used to evaluate accrued pension and other post-retirement benefits at 31 December. The same assumptions are used to determine pension and other post-retirement benefit expense for the following year, that is, the assumptions at 31 December 2008 are used to determine the pension liabilities at that date and the pension expense for 2009. Financial assumptions Discount rate for pension plan liabilities Discount rate for post-retirement benefit plans Rate of increase in salaries Rate of increase for pensions in payment Rate of increase in deferred pensions Inflation 2008 6.3 n/a 4.9 3.0 3.0 3.0 2007 5.7 n/a 5.1 3.2 3.2 3.2 UK 2006 5.1 n/a 4.7 2.8 2.8 2.8 2008 2007 6.3 6.2 2.2 – – 0.4 6.1 6.4 4.2 – – 2.4 US 2006 5.7 5.9 4.2 – – 2.4 2008 5.7 n/a 3.5 1.7 1.0 2.0 2007 5.6 n/a 3.7 1.8 1.2 2.2 % Other 2006 4.8 n/a 3.6 1.8 1.1 2.2 Our discount rate assumptions are based on third-party AA corporate bond indices and for our largest schemes in the UK and US we use yields which reflect the maturity profile of the expected benefit payments. The inflation rate assumptions for our UK and US schemes are based on the difference between the yields on index-linked and fixed-interest long-term government bonds. In other countries we use either this approach, or the central bank inflation target, or advice from the local actuary depending on the information that is available to us. The inflation assumptions are used to determine the rate of increase for pensions in payment and the rate of increase for deferred pensions where there is such an increase. Our assumptions for the rate of increase in salaries are based on our inflation assumption plus an allowance for expected long-term real salary growth. These include allowance for promotion-related salary growth, of between 0.3% and 0.4% depending on country. In addition to the financial assumptions, we regularly review the demographic and mortality assumptions. 159 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 38. Pensions and other post-retirement benefits continued Mortality assumptions reflect best practice in the countries in which we provide pensions, and have been chosen with regard to the latest available published tables adjusted where appropriate to reflect the experience of the group and an extrapolation of past longevity improvements into the future. As part of the triannual valuation of our UK pensions funds, our UK mortality assumption was reviewed and updated at end-2008 resulting in an increase in the liability of around $900 million. BP’s most substantial pension liabilities are in the UK, the US and Germany where our mortality assumptions are as follows: Mortality assumptions Life expectancy at age 60 for a male currently aged 60 Life expectancy at age 60 for a male currently aged 40 Life expectancy at age 60 for a female currently aged 60 Life expectancy at age 60 for a female currently aged 40 2008 2007 25.9 28.9 28.5 31.4 24.0 25.1 26.9 27.9 UK 2006 23.9 25.0 26.8 27.8 2008 2007 24.4 25.9 26.1 27.0 24.3 25.8 26.1 27.0 US 2006 24.2 25.8 26.0 26.9 2008 2007 23.0 25.9 27.6 30.3 22.4 25.3 27.0 29.7 Years Germany 2006 22.2 25.2 26.9 29.6 Our assumptions for future US healthcare cost trend rate reflect the rate of actual cost increases seen in recent years for the initial trend rate, and the ultimate trend rate reflects our long-term expectations based on past medical inflation seen over a longer period of time. The assumed future US healthcare cost trend rate is as follows: Initial US healthcare cost trend rate Ultimate US healthcare cost trend rate Year in which ultimate trend rate is reached 2008 8.6 5.0 2015 2007 9.0 5.0 2013 % 2006 9.3 5.0 2013 Pension plan assets are generally held in trusts. The primary objective of the trusts is to accumulate pools of assets sufficient to meet the obligation of the various plans. The assets of the trusts are invested in a manner consistent with fiduciary obligations and principles that reflect current practices in portfolio management. A significant proportion of the assets are held in equities, owing to a higher expected level of return over the long term with an acceptable level of risk. In order to provide reasonable assurance that no single security or type of security has an unwarranted impact on the total portfolio, the investment portfolios are highly diversified. The long-term asset allocation policy for the major plans is as follows: Asset category Total equity Bonds/cash Property/real estate Policy range % 45-75 17.5-50 0-10 Some of the group’s pension plans use derivative financial instruments as part of their asset mix and to manage the level of risk. The group’s main pension plans do not invest directly in either securities or property/real estate of the company or of any subsidiary. Return on asset assumptions reflect the group’s expectations built up by asset class and by plan. The group’s expectation is derived from a combination of historical returns over the long term and the forecasts of market professionals. Our assumption for return on equities is based on a long-term view, and the size of the resulting equity risk premium over government bond yields is reviewed each year for reasonableness. Our assumption for return on bonds reflects the portfolio mix of government fixed-interest, index-linked and corporate bonds. 160 BP Annual Report and Accounts 2008 Notes on financial statements 38. Pensions and other post-retirement benefits continued The expected long-term rates of return and market values of the various categories of asset held by the defined benefit plans at 31 December are set out below. The market values shown include the effects of derivative financial instruments. The amounts classified as equities include investments in companies listed on stock exchanges as well as unlisted investments. The market value of unlisted investments at 31 December 2008 was $2,819 million (2007 $2,491 million and 2006 $1,506 million). The market value of pension assets at the end of 2008 is lower than at the end of 2007 due to a fall in the market value of investments when expressed in their local currencies and a reduction in value that arises from changes in exchange rates (reducing the reported value of investments when expressed in US dollars). Movements in the value of plan assets during the year are shown in detail in the table on page 162. UK pension plans Equities Bonds Property Cash US pension plans Equities Bonds Property Cash US other post-retirement benefit plans Equities Bonds Other plans Equities Bonds Property Cash Expected long-term rate of return 2008 Market value Expected long-term rate of return 2007 Market value Expected long-term rate of return 2006 Market value % $ million % $ million % $ million 8.0 6.1 6.5 2.9 7.4 8.5 3.7 8.0 1.9 8.0 8.5 3.7 7.3 8.4 4.2 6.3 3.1 5.8 13,704 3,258 978 299 18,239 3,991 1,247 8 131 5,377 9 4 13 799 1,481 127 118 2,525 8.0 4.4 6.5 5.6 7.3 8.5 5.0 8.0 3.6 8.0 8.5 5.0 7.6 8.1 5.0 5.7 4.2 6.4 24,106 5,279 1,259 977 31,621 6,610 1,347 16 72 8,045 17 6 23 1,260 1,491 145 214 3,110 7.5 4.7 6.5 3.8 7.0 8.5 5.0 8.0 3.2 8.0 8.5 5.0 7.5 7.6 4.6 4.7 3.0 5.8 23,631 3,881 1,370 379 29,261 6,528 1,371 15 41 7,955 19 7 26 1,158 1,199 120 191 2,668 The assumed rate of investment return, discount rate, inflation and the assumed US healthcare cost trend rate all have a significant effect on the amounts reported. A one-percentage point change in these assumptions for the group’s plans would have had the following effects: Investment return Effect on pension and other post-retirement benefit expense in 2009 Discount rate Effect on pension and other post-retirement benefit expense in 2009 Effect on pension and other post-retirement benefit obligation at 31 December 2008 Inflation rate Effect on pension and other post-retirement benefit expense in 2009 Effect on pension and other post-retirement benefit obligation at 31 December 2008 US healthcare cost trend rate Effect on US other post-retirement benefit expense in 2009 Effect on US other post-retirement obligation at 31 December 2008 $ million One-percentage point Increase Decrease (256) 258 (88) (3,783) 129 4,818 375 3,407 (286) (2,783) 29 335 (23) (277) 161 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 38. Pensions and other post-retirement benefits continued Analysis of the amount charged to profit before interest and taxation Current service costa Past service cost Settlement, curtailment and special termination benefits Payments to defined contribution plans Total operating chargeb Analysis of the amount credited (charged) to other finance expense Expected return on plan assets Interest on plan liabilities Other finance income (expense) Analysis of the amount recognized in the statement of recognized income and expense Actual return less expected return on pension plan assets Change in assumptions underlying the present value of the plan liabilities Experience gains and losses arising on the plan liabilities Actuarial (loss) gain recognized in statement of recognized income and expense Movements in benefit obligation during the year Benefit obligation at 1 January Exchange adjustments Current service costa Past service cost Interest cost Curtailment Settlement Special termination benefitsc Contributions by plan participants Benefit payments (funded plans)d Benefit payments (unfunded plans)d Actuarial (gain) loss on obligation Benefit obligation at 31 Decembera Movements in fair value of plan assets during the year Fair value of plan assets at 1 January Exchange adjustments Expected return on plan assetsa e Contributions by plan participants Contributions by employers (funded plans) Benefit payments (funded plans)d Actuarial loss on plan assetse Fair value of plan assets at 31 December Surplus (deficit) at 31 December Represented by Asset recognized Liability recognized The surplus (deficit) may be analysed between funded and unfunded plans as follows Funded Unfunded The defined benefit obligation may be analysed between funded and unfunded plans as follows Funded Unfunded UK pension plans 448 7 30 – 485 2,094 (1,239) 855 (6,946) 1,570 (73) (5,449) 23,927 (6,408) 448 7 1,239 – (3) 33 42 (1,131) (2) (1,497) 16,655 31,621 (7,447) 2,094 42 6 (1,131) (6,946) 18,239 1,584 1,682 (98) 1,584 1,682 (98) 1,584 US pension plans US other post- retirement benefit plans 235 74 – 170 479 632 (444) 188 (2,895) 3 (194) (3,086) 7,409 – 235 74 444 – – – – (767) (52) 191 7,534 8,045 – 632 – 362 (767) (2,895) 5,377 (2,157) – (2,157) (2,157) (1,734) (423) (2,157) 40 – – – 40 2 (198) (196) (8) 215 18 225 3,178 – 40 – 198 – – – – (4) (176) (233) 3,003 23 – 2 – – (4) (8) 13 (2,990) – (2,990) (2,990) (31) (2,959) (2,990) $ million 2008 Total 851 82 42 195 1,170 2,922 (2,331) 591 (10,253) 2,002 (179) (8,430) 43,100 (7,036) 851 82 2,331 (3) (6) 51 54 (2,105) (649) (1,823) 34,847 42,799 (7,761) 2,922 54 498 (2,105) (10,253) 26,154 (8,693) 1,738 (10,431) (8,693) (437) (8,256) (8,693) Other plans 128 1 12 25 166 194 (450) (256) (404) 214 70 (120) 8,586 (628) 128 1 450 (3) (3) 18 12 (203) (419) (284) 7,655 3,110 (314) 194 12 130 (203) (404) 2,525 (5,130) 56 (5,186) (5,130) (354) (4,776) (5,130) (16,557) (98) (16,655) (7,111) (423) (7,534) (44) (2,959) (3,003) (2,879) (4,776) (7,655) (26,591) (8,256) (34,847) aThe costs of managing the plan’s investments are treated as being part of the investment return, the costs of administering our pensions plan benefits are generally included in current service cost and the costs of administering our other post-retirement benefit plans are included in the benefit obligation. blncluded within production and manufacturing expenses and distribution and administration expenses. cThe charge for special termination benefits represents the increased liability arising as a result of early retirements occurring as part of restructuring programmes. dThe benefit payments amount shown above comprises $2,697 million benefits plus $57 million of plan expenses incurred in the administration of the benefit. eThe actual return on plan assets is made up of the sum of the expected return on plan assets and the actuarial loss on plan assets as disclosed above. At 31 December 2008 reimbursement balances due from or to other companies in respect of pensions amounted to $455 million reimbursement assets (2007 $496 million) and $61 million reimbursement liabilities (2007 $72 million). These balances are not included as part of the pension liability, but are reflected elsewhere in the group balance sheet. 162 BP Annual Report and Accounts 2008 Notes on financial statements 38. Pensions and other post-retirement benefits continued Analysis of the amount charged to profit before interest and taxation Current service costa Past service cost Settlement, curtailment and special termination benefits Payments to defined contribution plans Total operating chargeb Analysis of the amount credited (charged) to other finance expense Expected return on plan assets Interest on plan liabilities Other finance income (expense) Analysis of the amount recognized in the statement of recognized income and expense Actual return less expected return on pension plan assets Change in assumptions underlying the present value of the plan liabilities Experience gains and losses arising on the plan liabilities Actuarial gain recognized in statement of recognized income and expense Movements in benefit obligation during the year Benefit obligation at 1 January Exchange adjustments Current service costa Past service cost Interest cost Curtailment Settlement Special termination benefitsc Contributions by plan participants Benefit payments (funded plans)d Benefit payments (unfunded plans)d Acquisitions Disposals Actuarial gain on obligation Benefit obligation at 31 Decembera Movements in fair value of plan assets during the year Fair value of plan assets at 1 January Exchange adjustments Expected return on plan assetsa e Contributions by plan participants Contributions by employers (funded plans) Benefit payments (funded plans)d Acquisitions Disposals Actuarial gain (loss) on plan assetse Fair value of plan assets at 31 December Surplus (deficit) at 31 December Represented by Asset recognized Liability recognized The surplus (deficit) may be analysed between funded and unfunded plans as follows Funded Unfunded UK pension plans 492 5 36 – 533 2,075 (1,198) 877 406 513 (162) 757 23,289 394 492 5 1,198 (7) (3) 46 43 (1,085) (3) – (91) (351) 23,927 29,261 488 2,075 43 524 (1,085) – (91) 406 31,621 7,694 7,818 (124) 7,694 7,818 (124) 7,694 US pension plans US other post- retirement benefit plans 227 10 – 184 421 613 (425) 188 (28) 358 (27) 303 7,695 – 227 10 425 – – – – (580) (37) – – (331) 7,409 7,955 – 613 – 97 (580) – (12) (28) 8,045 636 989 (353) 636 978 (342) 636 43 – – – 43 2 (190) (188) – 137 29 166 3,300 – 43 – 190 – – – – (5) (184) – – (166) 3,178 26 – 2 – – (5) – – – 23 (3,155) – (3,155) (3,155) (29) (3,126) (3,155) (52) (3,126) (3,178) $ million 2007 Total 894 15 38 209 1,156 2,855 (2,203) 652 302 1,615 (200) 1,717 42,433 1,311 894 15 2,203 (7) (3) 48 55 (1,852) (603) 141 (120) (1,415) 43,100 39,910 804 2,855 55 748 (1,852) 101 (124) 302 42,799 (301) 8,914 (9,215) (301) 8,504 (8,805) (301) (34,295) (8,805) (43,100) Other plans 132 – 2 25 159 165 (390) (225) (76) 607 (40) 491 8,149 917 132 – 390 – – 2 12 (182) (379) 141 (29) (567) 8,586 2,668 316 165 12 127 (182) 101 (21) (76) 3,110 (5,476) 107 (5,583) (5,476) (263) (5,213) (5,476) (3,373) (5,213) (8,586) s t n e m e t a t s l i a c n a n F i The defined benefit obligation may be analysed between funded and unfunded plans as follows Funded Unfunded (23,803) (124) (23,927) (7,067) (342) (7,409) aThe costs of managing the plan’s investments are treated as being part of the investment return, the costs of administering our pensions plan benefits are generally included in current service cost and the costs of administering our other post-retirement benefit plans are included in the benefit obligation. bIncluded within production and manufacturing expenses and distribution and administration expenses. cThe charge for special termination benefits represents the increased liability arising as a result of early retirements occurring as part of a restructuring programme in the UK. dThe benefit payments amount shown above comprises $2,398 million benefits plus $57 million of plan expenses incurred in the administration of the benefit. eThe actual return on plan assets is made up of the sum of the expected return on plan assets and the actuarial gain on plan assets as disclosed above. 163 BP Annual Report and Accounts 2008 Notes on financial statements 38. Pensions and other post-retirement benefits continued Analysis of the amount charged to profit before interest and taxation Current service costa Past service cost Settlement, curtailment and special termination benefits Payments to defined contribution plans Total operating chargeb Analysis of the amount credited (charged) to other finance expense Expected return on plan assets Interest on plan liabilities Other finance income (expense) Analysis of the amount recognized in the statement of recognized income and expense Actual return less expected return on pension plan assets Change in assumptions underlying the present value of the plan liabilities Experience gains and losses arising on the plan liabilities Actuarial gain recognized in statement of recognized income and expense UK pension plans US pension plans US other post- retirement benefit plans 432 (74) 4 – 362 1,711 (1,006) 705 1,305 114 (24) 1,395 216 38 – 161 415 564 (423) 141 521 195 17 733 42 – – – 42 2 (186) (184) – 111 80 191 $ million 2006 Total 829 3 231 177 1,240 2,410 (1,940) 470 1,967 772 (124) 2,615 Other plans 139 39 227 16 421 133 (325) (192) 141 352 (197) 296 aThe costs of managing the plan’s investments are treated as being part of the investment return, the costs of administering our pensions plan benefits are generally included in current service cost, and the costs of administering our other post-retirement benefit plans are included in the benefit obligation. bIncluded within production and manufacturing expenses and distribution and administration expenses. History of surplus (deficit) and of experience gains and losses Benefit obligation at 31 December Fair value of plan assets at 31 December Deficit Experience losses on plan liabilities Actual return less expected return on pension plan assets Actual return on plan assets Actuarial (loss) gain recognized in statement of recognized income and expense Cumulative amount recognized in statement of recognized income and expense 2008 2007 2006 2005 34,847 26,154 (8,693) (178) (10,253) (7,331) (8,430) (2,940) 43,100 42,799 (301) (200) 302 3,157 1,717 5,490 42,433 39,910 (2,523) (124) 1,967 4,377 2,615 3,773 38,855 32,907 (5,948) (212) 3,364 5,502 975 1,158 Estimated future benefit payments The expected benefit payments, which reflect expected future service, as appropriate, but exclude plan expenses, up until 2018 are as follows: US other post- retirement benefit plans 194 200 207 211 214 1,111 US pension plans 795 798 771 787 754 3,645 UK pension plans 941 969 942 941 941 4,704 Other plans 525 512 506 506 496 2,501 2009 2010 2011 2012 2013 2014-2018 164 $ million 2004 39,945 31,712 (8,233) (468) 1,349 3,332 107 183 $ million Total 2,455 2,479 2,426 2,445 2,405 11,961 BP Annual Report and Accounts 2008 Notes on financial statements 39. Called-up share capital The allotted, called-up and fully paid share capital at 31 December was as follows: Issued 8% cumulative first preference shares of £1 each 9% cumulative second preference shares of £1 each Ordinary shares of 25 cents each At 1 January Issue of new shares for employee share schemes Issue of ordinary share capital for TNK-BP Repurchase of ordinary share capital Othera At 31 December Authorized 8% cumulative first preference shares of £1 each 9% cumulative second preference shares of £1 each Ordinary shares of 25 cents each aReclassification in respect of share repurchases in 2005. Shares (thousand) 7,233 5,473 20,863,424 24,791 – (269,757) – 20,618,458 2008 $ million 12 9 21 Shares (thousand) 7,233 5,473 5,216 21,457,301 69,273 6 –– (67) –– (663,150) 5,155 20,863,424 5,176 2007 $ million 12 9 21 Shares (thousand) 7,233 5,473 18 – (166) – 5,364 20,657,045 64,854 111,151 (358,374) 982,625 5,216 21,457,301 5,237 7,250 5,500 36,000,000 12 9 7,250 5,500 9,000 36,000,000 12 9 7,250 5,500 9,000 36,000,000 2006 $ million 12 9 21 5,164 16 28 (90) 246 5,364 5,385 12 9 9,000 Voting on substantive resolutions tabled at a general meeting is on a poll. On a poll, shareholders present in person or by proxy have two votes for every £5 in nominal amount of the first and second preference shares held and one vote for every ordinary share held. On a show-of-hands vote on other resolutions (procedural matters) at a general meeting, shareholders present in person or by proxy have one vote each. In the event of the winding up of the company, preference shareholders would be entitled to a sum equal to the capital paid up on the preference shares, plus an amount in respect of accrued and unpaid dividends and a premium equal to the higher of (i) 10% of the capital paid up on the preference shares and (ii) the excess of the average market price of such shares on the London Stock Exchange during the previous six months over par value. Repurchase of ordinary share capital The company purchased 269,757,188 ordinary shares (2007 663,149,528 and 2006 1,334,362,750 ordinary shares) for a total consideration of $2,914 million (2007 $7,497 million and 2006 $15,481 million), all of which were for cancellation. At 31 December 2008, 150,444,408 (2007 150,966,096 and 2006 99,045,000) ordinary shares bought back were awaiting cancellation. These shares have been excluded from ordinary shares in issue shown above. At 31 December 2008, 1,888,151,157 shares of nominal value $472 million were held in treasury (2007 1,940,638,808 shares of nominal value $485 million). The maximum number of shares held in treasury during the year was 1,940,638,808 shares of nominal value $485 million (2007 1,946,804,533 shares of nominal value $487 million), representing 9.3% (2007 9.1%) of the called-up ordinary share capital of the company. During 2008, 10,000,000 treasury shares (2007 1,700,000 treasury shares) were gifted to the Employee Share Ownership Plans (ESOPs), 20,000,000 treasury shares were transferred at market price to the ESOPs, and 22,487,651 treasury shares (2007 4,465,725 treasury shares) were re- issued in relation to employee share schemes, in total representing 0.25% (2007 less than 0.1%) of the ordinary share capital of the company. The nominal value of these shares was $13 million (2007 $2 million) and the total proceeds received from the re-issues in relation to employee share schemes were $75 million (2007 $35 million). Transaction costs of share repurchases amounted to $16 million (2007 $40 million and 2006 $83 million). 165 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 40. Capital and reserves At 1 January 2008 Recognized income and expense Currency translation differences (net of tax) Actuarial loss relating to pension and other post-retirement benefits (net of tax) Available-for-sale investments marked to market (net of tax) Available-for-sale investments recycling (net of tax) Cash flow hedges marked to market (net of tax) Cash flow hedges recycling (net of tax) Tax on share-based payments Profit for the year Total recognized income and expense for the year Dividends Repurchase of ordinary share capital Share-based payments Minority interest buyout At 31 December 2008 At 1 January 2007 Recognized income and expense Currency translation differences (net of tax) Exchange gain on translation of foreign operations transferred to (profit) or loss on sale (net of tax) Actuarial gain relating to pension and other post-retirement benefits (net of tax) Available-for-sale investments marked to market (net of tax) Available-for-sale investments recycling (net of tax) Cash flow hedges marked to market (net of tax) Cash flow hedges recycling (net of tax) Tax on share-based payments Profit for the year Total recognized income and expense for the year Dividends Repurchase of ordinary share capital Share-based payments At 31 December 2007 At 1 January 2006 Recognized income and expense Currency translation differences (net of tax) Actuarial gain relating to pension and other post-retirement benefits (net of tax) Available-for-sale investments marked to market (net of tax) Available-for-sale investments recycling (net of tax) Cash flow hedges marked to market (net of tax) Cash flow hedges recycling (net of tax) Tax on share-based payments Profit for the year Total recognized income and expense for the year Dividends Repurchase of ordinary share capital Issue of ordinary share capital for TNK-BP Share-based payments Otherb Currency translation differences (net of tax) At 31 December 2006 Share capital 5,237 – – – – – – – – – – (67) 6 – 5,176 Share capital 5,385 – – – – – – – – – – – (166) 18 5,237 Share capital 5,185 – – – – – – – – – – (90) 28 16 246 – 5,385 Share Capital premium redemption reserve 1,005 account 9,581 – – – – – – – – – – – 182 – 9,763 – – – – – – – – – – 67 – – 1,072 Share premium account 9,074 Capital redemption reserve 839 – – – – – – – – – – – – 507 9,581 – – – – – – – – – – – 166 – 1,005 Share premium account 7,371 Capital redemption reserve 749 – – – – – – – – – – – 1,222 481 – – 9,074 – – – – – – – – – – 90 – – – – 839 aAt 31 December 2006, the foreign currency translation reserve included $122 million relating to non-current assets held for sale. During 2007, this was included in the $147 million recycled to the income statement relating to disposals in 2007. For further details see Note 5. bReclassification in respect of share repurchases in 2005. 166 BP Annual Report and Accounts 2008 Notes on financial statements Merger reserve 27,206 – – – – – – – – – – – – – 27,206 Merger reserve 27,201 – – – – – – – – – – – – 5 27,206 Merger reserve 27,190 – – – – – – – – – – – – 11 – – 27,201 Other reserve – – – – – – – – – – – – – – – Other reserve 5 – – – – – – – – – – – – (5) – Other reserve 16 – – – – – – – – – – – – (11) – – 5 Own shares (60) – – – – – – – – – – – (266) – (326) Own shares (154) – – – – – – – – – – – – 94 (60) Own shares (140) – – – – – – – – – – – – 5 – (19) (154) Treasury shares (22,112) – – – – – – – – – – – 599 – (21,513) Treasury shares (22,182) – – – – – – – – – – – – 70 (22,112) Treasury shares (10,598) – – – – – – – – – – (11,472) – 134 (246) – (22,182) Foreign currency translation reserve 6,540 Available- for-sale investments 481 Cash flow hedges 106 Share- based payment reserve 1,196 Profit and loss account 64,510 BP shareholders’ equity 93,690 Minority interest 962 Total equity 94,652 $ million (4,187) – – – – – – – (4,187) – – – – 2,353 – – (944) 526 – – – – (418) – – – – 63 – – – – (984) 12 – – (972) – – – – (866) Foreign currency translation reservea 4,685 Available- for-sale investments 386 Cash flow hedges 39 2,002 (147) – – – – – – – 1,855 – – – 6,540 – – – 152 (57) – – – – 95 – – – 481 – – – – – 138 (71) – – 67 – – – 106 Foreign currency translation reservea 2,943 Available- for-sale investments 385 Cash flow hedges (234) 1,742 – – – – – – – 1,742 – – – – – – 4,685 27 – 478 (504) – – – – 1 – – – – – – 386 6 – – – 313 (46) – – 273 – – – – – – 39 – – – – – – (190) – (190) – – 289 – 1,295 Share- based payment reserve 859 – – – – – – – 213 – 213 – – 124 1,196 Share- based payment reserve 643 – – – – – – 26 – 26 – – – 190 – – 859 – (5,828) – – – – – 21,157 15,329 (10,342) (2,414) (3) – 67,080 Profit and loss account 58,487 – – 1,290 – – – – – 20,845 22,135 (8,106) (7,997) (9) 64,510 Profit and loss account 46,466 – 1,795 – – – – – 22,000 23,795 (7,686) (4,009) – (79) – – 58,487 (4,187) (5,828) (944) 526 (984) 12 (190) 21,157 9,562 (10,342) (2,414) 807 – 91,303 (75) – – – – – – 509 434 (425) – – (165) 806 BP shareholders’ equity 84,624 Minority interest 841 2,002 (147) 1,290 152 (57) 138 (71) 213 20,845 24,365 (8,106) (7,997) 804 93,690 24 – – – – – – – 324 348 (227) – – 962 (4,262) (5,828) (944) 526 (984) 12 (190) 21,666 9,996 (10,767) (2,414) 807 (165) 92,109 Total equity 85,465 2,026 (147) 1,290 152 (57) 138 (71) 213 21,169 24,713 (8,333) (7,997) 804 94,652 BP shareholders’ equity 79,976 Minority interest 789 Total equity 80,765 1,775 1,795 478 (504) 313 (46) 26 22,000 25,837 (7,686) (15,481) 1,250 747 – (19) 84,624 49 – – – – – – 286 335 (283) – – – – – 841 1,824 1,795 478 (504) 313 (46) 26 22,286 26,172 (7,969) (15,481) 1,250 747 – (19) 85,465 167 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 40. Capital and reserves continued Share capital The balance on the share capital account represents the aggregate nominal value of all ordinary and preference shares in issue, including treasury shares. Share premium account The balance on the share premium account represents the amounts received in excess of the nominal value of the ordinary and preference shares. Capital redemption reserve The balance on the capital redemption reserve represents the aggregate nominal value of all the ordinary shares repurchased and cancelled. Merger reserve The balance on the merger reserve represents the fair value of the consideration given in excess of the nominal value of the ordinary shares issued in an acquisition made by the issue of shares. Other reserve The balance on the other reserve represents the fair value of the consideration given in excess of the nominal value of the ordinary shares issued in the ARCO acquisition on the exercise of ARCO share options. Own shares Own shares represent BP shares held in Employee Share Ownership Plans (ESOPs) to meet the future requirements of the employee share-based payment plans. Treasury shares Treasury shares represent BP shares repurchased and available for re-issue. Foreign currency translation reserve The foreign currency translation reserve is used to record exchange differences arising from the translation of the financial statements of foreign operations. Upon disposal of foreign operations, the related accumulated exchange differences are recycled to the income statement. This reserve is also used to record the effect of hedging net investments in foreign operations. Available-for-sale investments This reserve records the changes in fair value of available-for-sale investments. On disposal, or impairment, the cumulative changes in fair value are recycled to the income statement. Cash flow hedges This reserve records the portion of the gain or loss on a hedging instrument in a cash flow hedge that is determined to be an effective hedge. When the hedged transaction occurs, the gain or loss on the hedging instrument is transferred out of equity to either profit or loss or the carrying value of assets, as appropriate. If the forecast transaction is no longer expected to occur the gain or loss recognized in equity is transferred to profit or loss. Share-based payment reserve This reserve represents cumulative amounts charged to profit in respect of employee share-based payment plans where the scheme has not yet been settled by means of an award of shares to an individual. Profit and loss account The balance held on this reserve is the accumulated retained profits of the group. 41. Share-based payments Effect of share-based payment transactions on the group’s result and financial position Total expense recognized for equity-settled share-based payment transactions Total (credit) expense recognized for cash-settled share-based payment transactions Total expense recognized for share-based payment transactions Closing balance of liability for cash-settled share-based payment transactions Total intrinsic value for vested cash-settled share-based payments 2008 524 (16) 508 21 2 2007 412 16 428 40 22 $ million 2006 405 14 419 38 23 For ease of presentation, option and share holdings detailed in the tables within this note are stated as UK ordinary share equivalents in US dollars. US employees are granted American Depositary Shares (ADSs) or options over the company’s ADSs (one ADS is equivalent to six ordinary shares). The share-based payment plans that existed during the year are detailed below. All plans are ongoing unless otherwise stated. 168 BP Annual Report and Accounts 2008 Notes on financial statements 41. Share-based payments continued Plans for executive directors Executive Directors’ Incentive Plan (EDIP) – share element An equity-settled incentive share plan for executive directors driven by one performance measure over a three-year performance period. The award of shares is determined by comparing BP’s total shareholder return (TSR) against the other oil majors. After the performance period, the shares that vest (net of tax) are then subject to a three-year retention period. In February 2008 it was considered appropriate to strengthen the retention element of remuneration for two executive directors. The remuneration committee granted, on a one-off basis, a restricted share award to those two executive directors. The shares will vest subject to continued service, in equal tranches, after three and five years. Vesting of each tranche is dependent on the committee being satisfied, at each vesting date, with the performance of the individuals. These retention awards have been granted under EDIP which permits awards to be made, on an exceptional basis, subject to a requirement of continued service over a specific period. The directors’ remuneration report on pages 77 to 87 includes full details of this plan. Executive Directors’ Incentive Plan (EDIP) – share option element An equity-settled share option plan for executive directors that permits options to be granted at an exercise price no lower than the market price of a share on the date that the option is granted. Options vest over three years (one-third each after one, two and three years respectively) and must be exercised within seven years of the date of grant. Last grants were made in 2004. From 2005 onwards the remuneration committee’s policy is not to make further grants of share options to executive directors. Plans for senior employees Medium Term Performance Plan (MTPP) An equity-settled restricted share unit plan for senior employees driven by two performance measures over a three-year performance period. At the end of the performance period units are converted into shares. The amount of units converted to shares is determined by comparing BP’s TSR against the other oil majors and, additionally, by comparing free cash flow (FCF) against a threshold established for the period. For a small group of particularly senior employees only the TSR measure is applicable in determining the award. The number of units converted into shares is increased to take account of the net notional dividends that would have been received during the performance period, assuming that such dividends would have been reinvested. With regard to leaver provisions the general rule is that leaving employment during the performance period will preclude the conversion of units into shares. However, special arrangements apply where the participant leaves for a qualifying reason and employment ceases after completion of the first year of the performance period. The current policy of the company, which is reflected in the terms of the MTPP, is that senior employees subject to the plan should meet a minimum shareholding requirement. Grants will not be made under this plan after 2008. Senior Employees Deferred Annual Bonus Plan (DAB) An equity-settled restricted share unit plan for senior employees. In 2008 the grant value is equal to 50% (2007 and 2006 50%) of the annual cash bonus awarded for the preceding performance year (the ’performance period’). For 2009 this will increase to 100%. The units are restricted for a period of three years (the ’restriction period’), during which they accrue net notional dividends which are treated as having been reinvested. At the end of the restriction period units are converted into shares. With regard to leaver provisions, if a participant ceases to be employed by BP prior to the end of the performance period the general rule is that this will preclude the grant of units. If a participant ceases to be employed by BP prior to the end of the restriction period the general rule is that this will preclude the conversion of units into shares. However, special arrangements apply where the participant leaves for a qualifying reason. Integrated Supply and Trading Deferred Annual Bonus Plan (IST DAB) An equity-settled restricted share unit plan for traders in the IST function. The plan operates under the DAB but the rules differ in certain respects from that plan. If eligible, a portion of a trader’s annual cash bonus (the ‘base grant’), awarded for the preceding performance year (the ‘performance period’), plus an additional 25% of that amount (the ‘additional grant’),will be deferred in restricted share units. The units are restricted over a period of three calendar years, during which they accrue net notional dividends, which are treated as having been reinvested. At the end of the restriction period units are converted into shares. One third of the base grant vests after one and two calendar years respectively, with the final third plus the additional grant vesting after three calendar years. With regard to leaver provisions, if a participant ceases to be employed by BP prior to the end of the restriction period the general rule is that this will preclude the conversion of units into shares. Special arrangements apply where the participant leaves for a qualifying reason. Performance Share Plan (PSP) An equity-settled restricted share unit plan for senior professionals and team leaders. The grant takes into account the recipient’s performance in the prior calendar year (the ’performance period’). The units are restricted for a period of three years (the ’restriction period’), during which they accrue net notional dividends, which are treated as having been reinvested. At the end of the restriction period additional units may be awarded based on BP’s TSR performance against the other oil majors. At the end of the restriction period units are converted into shares. With regard to leaver provisions the general rule is that leaving during the performance period will preclude the grant of units. If a participant ceases to be employed by BP prior to the end of the restriction period the general rule is that this will preclude the conversion of units into shares. Special arrangements apply where the participant leaves for a qualifying reason. Restricted Share Plan (RSP) An equity-settled restricted share unit plan used predominantly for senior employees in special circumstances (such as recruitment and retention). There are generally no performance conditions but the units are subject to a three-year restriction period, during which they accrue net notional dividends which are treated as having been reinvested. At the end of the restricted period the units are converted into shares. With regard to leaver provisions, if a participant ceases to be employed by BP prior to the end of the restriction period the general rule is that this will preclude the conversion of units into shares. However, special arrangements apply where the participant leaves for a qualifying reason. 169 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 41. Share-based payments continued BP Share Option Plan (BPSOP) An equity-settled share option plan that applies to certain categories of employees. Participants are granted share options with an exercise price no lower than the market price of a share immediately preceding the date of grant. There are no performance conditions and the options are exercisable between the third and tenth anniversaries of the grant date. The general rule is that the options will lapse if the participant leaves employment before the end of the third calendar year from the date of grant (and that vested options are exercisable within 31⁄2 years from the date of leaving). However, special arrangements apply where the participant leaves for a qualifying reason and employment ceases after the end of the calendar year of the date of grant. From 2007 share options no longer form a regular element of our incentive plans. Savings and matching plans BP ShareSave Plan This is a savings-related share option plan under which employees save on a monthly basis, over a three-year or five-year period, towards the purchase of shares at a fixed price determined when the option is granted. This price is usually set at a 20% discount to the market price at the time of grant. The option must be exercised within six months of maturity of the savings contract; otherwise it lapses. The plan is run in the UK and options are granted annually, usually in June. Participants leaving for a qualifying reason will have six months in which to use their savings to exercise their options on a pro rated basis. BP ShareMatch Plans These are matching share plans under which BP matches employees’ own contributions of shares up to a predetermined limit. The plans are run in the UK and in more than 70 other countries. The UK plan is run on a monthly basis with shares being held in trust for five years before they can be released free of any income tax and national insurance liability. In other countries the plan is run on an annual basis with shares being held in trust for three years. The plan is operated on a cash basis in those countries where there are regulatory restrictions preventing the holding of BP shares. When the employee leaves BP all shares must be removed from trust and units under the plan operated on a cash basis must be encashed. Local plans In some countries BP provides local scheme benefits, the rules and qualifications for which vary according to local circumstances. The above share plans are indicated as being equity-settled. In certain countries however, it is not possible to award shares to employees owing to local legislation. In these instances the award will be settled in cash, calculated as the cash equivalent of the value to the employee of an equity- settled plan. Cash plans Cash-settled share-based payments/Stock Appreciation Rights (SARs) These are cash-settled share-based payments available to certain employees that require the group to pay the intrinsic value of the cash option/SAR/restricted shares to the employee at the date of exercise or on maturity. The cash options/SARs have the same rules as the BPSOP plan and the cash restricted share plans (MTPP, DAB, PSP, RSP) have the same rules as their equity-settled counterparts. Employee Share Ownership Plans (ESOPs) ESOPs have been established to acquire BP shares to satisfy any awards made to participants under the BP share plans as required. The ESOPs have waived their rights to dividends on shares held for future awards and are funded by the group. Until such time as the company’s own shares held by the ESOP trusts vest unconditionally to employees, the amount paid for those shares is deducted in arriving at shareholders’ equity (see Note 40). Assets and liabilities of the ESOPs are recognized as assets and liabilities of the group. At 31 December 2008 the ESOPs held 29,051,082 shares (2007 6,448,838 shares and 2006 12,795,887 shares) for potential future awards, which had a market value of $220 million (2007 $79 million and 2006 $142 million). 2007 Weighted average exercise price $ 8.25 9.11 9.10 6.94 8.68 8.51 7.70 Number of options 426,471,462 6,004,025 (3,924,714) (69,715,558) (740,972) 358,094,243 238,707,055 2006 Weighted average exercise price $ 7.64 11.18 8.69 6.52 7.99 8.25 7.41 Number of options 450,453,502 53,977,639 (7,169,710) (70,658,480) (131,489) 426,471,462 236,726,966 Share option transactions 2008 Number Weighted average of exercise price $ 8.51 8.96 8.50 6.97 7.00 8.70 8.22 options 358,094,243 8,062,899 (2,502,784) (37,277,895) (121,864) 326,254,599 260,178,938 Outstanding at 1 January Granted Forfeited Exercised Expired Outstanding at 31 December Exercisable at 31 December 170 BP Annual Report and Accounts 2008 Notes on financial statements 41. Share-based payments continued As share options are exercised continuously throughout the year, the weighted average share price during the year of $10.87 (2007 $11.72 and 2006 $11.85) is representative of the weighted average share price at the date of exercise. For the options outstanding at 31 December 2008, the exercise price ranges and weighted average remaining contractual lives are shown below. ` Options outstanding Options exercisable Range of exercise prices $5.71 – $7.25 $7.26 – $8.80 $8.81 – $10.36 $10.37 – $11.92 Fair values and associated details for options and shares granted Number of shares 51,430,951 159,708,260 42,960,673 72,154,715 326,254,599 Weighted average Weighted average remaining life exercise price $ 6.39 8.11 9.53 11.14 8.70 Years 3.81 3.12 4.53 6.81 4.23 Number Weighted average of exercise price $ 6.35 8.11 9.83 10.67 8.22 shares 48,919,680 157,933,135 26,083,268 27,242,855 260,178,938 Options granted in 2008 Option pricing model used Weighted average fair value Weighted average share price Weighted average exercise price Expected volatility Option life Expected dividends Risk free interest rate Expected exercise behaviour Options granted in 2007 Option pricing model used Weighted average fair value Weighted average share price Weighted average exercise price Expected volatility Option life Expected dividends Risk free interest rate Expected exercise behaviour Options granted in 2006 Option pricing model used Weighted average fair value Weighted average share price Weighted average exercise price Expected volatility Option life Expected dividends Risk free interest rate Expected exercise behaviour ShareSave 3 year Binomial $1.82 $11.26 $9.70 23% 3.5 years 4.60% 5.00% 100% year 4 ShareSave 3 year Binomial $3.57 $12.10 $9.13 21% 3.5 years 3.48% 5.75% 100% year 4 ShareSave 3 year Binomial $2.88 $11.08 $9.10 24% 3.5 years 3.40% 5.00% 100% year 4 ShareSave 5 year Binomial $1.74 $11.26 $9.70 23% 5.5 years 4.60% 5.00% 100% year 6 ShareSave 5 year Binomial $3.79 $12.10 $9.13 21% 5.5 years 3.48% 5.75% 100% year 6 ShareSave 5 year Binomial $3.08 $11.08 $9.10 24% 5.5 years 3.40% 4.75% 100% year 6 BPSOP Binomial $2.46 $11.07 $11.17 22% 10 years 3.23% 4.50% 5% years 4-9, 70% year 10 The group uses an appropriate valuation model of expected volatility of US ADSs for the quarter within which the grant date of the relevant plan falls. Management is responsible for all inputs and assumptions in relation to that model, including the determination of expected volatility. Shares granted in 2008 Number of equity instruments granted (million) Weighted average fair value Fair value measurement basis MTPP- TSR 9.1 $5.07 Monte Carlo MTPP- FCF 9.1 $10.34 Market value EDIP- TSR 2.6 $4.55 Monte Carlo EDIP- RET 0.5 $11.13 Market value RSP 7.7 $8.83 Market value DAB 5.8 $10.34 Market value PSP 16.7 $12.89 Monte Carlo 171 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 41. Share-based payments continued Shares granted in 2007 Number of equity instruments granted (million) Weighted average fair value Fair value measurement basis Shares granted in 2006 Number of equity instruments granted (million) Weighted average fair value Fair value measurement basis MTPP- TSR 9.4 $4.73 Monte Carlo MTPP- FCF 8.5 $10.02 Market value MTPP- TSR 8.7 $7.28 Monte Carlo EDIP- TSR 4.5 $2.81 Monte Carlo MTPP- FCF 7.8 $11.23 Market value EDIP- LTL 0.5 $9.92 Market value EDIP- TSR 3.3 $4.87 Monte Carlo RSP 7.7 $11.93 Market value EDIP- LTL 0.5 $11.23 Market value DAB 4.4 $10.02 Market value RSP 0.5 $11.07 Market value PSP 14.8 $12.37 Monte Carlo DAB 3.5 $11.06 Market value The group used a Monte Carlo simulation to fair value the TSR element of the 2008, 2007 and 2006 PSP, MTPP and EDIP plans. In accordance with the rules of the plans the model simulates BP’s TSR and compares it against our principal strategic competitors over the three-year period of the plans. The model takes into account the historic dividends, share price volatilities and covariances of BP and each comparator company to produce a predicted distribution of relative share performance. This is applied to the reward criteria to give an expected value of the TSR element. Accounting expense does not necessarily represent the actual value of share-based payments made to recipients, which are determined by the remuneration committee according to established criteria. 42. Employee costs and numbers Employee costs Wages and salariesa c Social security costs Share-based payments Pension and other post-retirement benefit costs 2008 10,388 805 508 579 12,280 2007 9,808 771 428 504 11,511 $ million 2006 8,703 751 419 770 10,643 2008 2007 2006 Number of employees at 31 December Exploration and Production Refining and Marketingb c Other businesses and corporatec By geographical area UK Rest of Europe US Rest of Worldb Average number of employees Exploration and Production Refining and Marketing Other businesses and corporate 21,400 61,500 9,100 92,000 15,900 19,400 29,300 27,400 92,000 21,800 67,200 9,100 98,100 17,000 19,900 33,000 28,200 98,100 UK 3,700 9,300 3,400 16,400 Rest of Europe 700 18,300 800 19,800 US 7,800 21,600 2,600 32,000 Rest of World 9,400 15,800 2,300 27,500 2008 Total 21,600 65,000 9,100 95,700 UK 3,800 10,300 2,600 16,700 Rest of Europe 700 18,600 900 20,200 US 7,700 23,400 2,500 33,600 Rest of World 9,300 15,000 2,400 26,700 21,400 68,000 7,600 97,000 16,900 20,200 33,700 26,200 97,000 2007 Total 21,500 67,300 8,400 97,200 aIncludes termination payments of $669 million (2007 $422 million and 2006 $257 million). A restructuring was announced in October 2007, the implementation of which continues in 2009. bIncludes 21,200 (2007 24,500 and 2006 26,100) service station staff. cA minor amendment has been made to the comparative figures to include some employee costs which had been previously incorrectly excluded and to correct headcount data. 172 BP Annual Report and Accounts 2008 Notes on financial statements 42. Employee costs and numbers continued Average number of employees Exploration and Production Refining and Marketing Other businesses and corporate UK 3,500 11,100 2,200 16,800 Rest of Europe 800 19,300 800 20,900 US 7,100 24,800 2,600 34,500 Rest of World 9,000 14,100 1,800 24,900 43. Remuneration of directors and senior management Remuneration of directors Total for all directors Emoluments Gains made on the exercise of share options Amounts awarded under incentive schemes 2008 2007 19 1 – 26 2 10 2006 Total 20,400 69,300 7,400 97,100 $ million 2006 14 12 14 Emoluments These amounts comprise fees paid to the non-executive chairman and the non-executive directors and, for executive directors, salary and benefits earned during the relevant financial year, plus bonuses awarded for the year. This includes an ex gratia superannuation payment of nil (2007 $3 million and 2006 nil) and compensation for loss of office of $1 million (2007 $1 million and 2006 nil). Pension contributions Four executive directors participated in a non-contributory pension scheme established for UK employees by a separate trust fund to which contributions are made by BP based on actuarial advice. One US executive director participated in the US BP Retirement Accumulation Plan during 2008. Office facilities for former chairmen and deputy chairmen It is customary for the company to make available to former chairmen and deputy chairmen, who were previously employed executives, the use of office and basic secretarial facilities following their retirement. The cost involved in doing so is not significant. Further information Full details of individual directors’ remuneration are given in the directors’ remuneration report on pages 77 to 87. Remuneration of senior management Total for all senior management Short-term employee benefits Post-retirement benefits Share-based payments 2008 2007 40 4 20 37 7 22 $ million 2006 30 4 26 s t n e m e t a t s l i a c n a n F i Senior management, in addition to executive and non-executive directors, includes other senior managers who are members of the executive management team. Short-term employee benefits In addition to fees paid to the non-executive chairman and non-executive directors, these amounts comprise, for executive directors and senior managers, salary and benefits earned during the year, plus bonuses awarded for the year. This includes an ex gratia superannuation payment of nil (2007 $3 million and 2006 nil) and compensation for loss of office of $3 million (2007 $1 million and 2006 $5 million). Post-retirement benefits The amounts represent the estimated cost to the group of providing defined benefit pensions and other post-retirement benefits to senior management in respect of the current year of service measured in accordance with IAS 19 ’Employee Benefits’. Share-based payments This is the cost to the group of senior management’s participation in share-based payment plans, as measured by the fair value of options and shares granted accounted for in accordance with IFRS 2 ’Share-based Payments’. The main plans in which senior management have participated are the EDIP, MTPP and LTPP. For details of these plans refer to Note 41. 173 BP Annual Report and Accounts 2008 Notes on financial statements 44. Contingent liabilities There were contingent liabilities at 31 December 2008 in respect of guarantees and indemnities entered into as part of the ordinary course of the group’s business. No material losses are likely to arise from such contingent liabilities. Further information is included in Note 28. Approximately 200 lawsuits were filed in State and Federal Courts in Alaska seeking compensatory and punitive damages arising out of the Exxon Valdez oil spill in Prince William Sound in March 1989. Most of those suits named Exxon (now ExxonMobil), Alyeska Pipeline Service Company (Alyeska), which operates the oil terminal at Valdez, and the other oil companies that own Alyeska. Alyeska initially responded to the spill until the response was taken over by Exxon. BP owns a 46.9% interest (reduced during 2001 from 50% by a sale of 3.1% to Phillips) in Alyeska through a subsidiary of BP America Inc. and briefly indirectly owned a further 20% interest in Alyeska following BP’s combination with Atlantic Richfield Company (Atlantic Richfield). Alyeska and its owners have settled all the claims against them under these lawsuits. Exxon has indicated that it may file a claim for contribution against Alyeska for a portion of the costs and damages which it has incurred. If any claims are asserted by Exxon that affect Alyeska and its owners, BP will defend the claims vigorously. It is not possible to estimate any financial effect. Since 1987, Atlantic Richfield, a current subsidiary of BP, has been named as a co-defendant in numerous lawsuits brought in the US alleging injury to persons and property caused by lead pigment in paint. The majority of the lawsuits have been abandoned or dismissed as against Atlantic Richfield. Atlantic Richfield is named in these lawsuits as alleged successor to International Smelting and Refining and another company that manufactured lead pigment during the period 1920-1946. Plaintiffs include individuals and governmental entities. Several of the lawsuits purport to be class actions. The lawsuits (depending on plaintiff) seek various remedies, including: compensation to lead-poisoned children; cost to find and remove lead paint from buildings; medical monitoring and screening programmes; public warning and education on lead hazards; reimbursement of government healthcare costs and special education for lead-poisoned citizens; and punitive damages. No lawsuit against Atlantic Richfield has been settled nor has Atlantic Richfield been subject to a final adverse judgment in any proceeding. The amounts claimed and, if such suits were successful, the costs of implementing the remedies sought in the various cases could be substantial. While it is not possible to predict the outcome of these legal actions, Atlantic Richfield believes that it has valid defences and it intends to defend such actions vigorously and thus the incurrence of a liability by Atlantic Richfield is remote. Consequently, BP believes that the impact of these lawsuits on the group’s results of operations, financial position or liquidity will not be material. In addition, various group companies are parties to legal actions and claims that arise in the ordinary course of the group’s business. While the outcome of such legal proceedings cannot be readily foreseen, BP believes that they will be resolved without material effect on the group’s results of operations, financial position or liquidity. The group files income tax returns in many jurisdictions throughout the world. Various tax authorities are currently examining the group’s income tax returns. Tax returns contain matters that could be subject to differing interpretations of applicable tax laws and regulations and the resolution of tax positions through negotiations with relevant tax authorities, or through litigation, can take several years to complete. While it is difficult to predict the ultimate outcome in some cases, the group does not anticipate that there will be any material impact upon the group’s results of operations, financial position or liquidity. The group is subject to numerous national and local environmental laws and regulations concerning its products, operations and other activities. These laws and regulations may require the group to take future action to remediate the effects on the environment of prior disposal or release of chemicals or petroleum substances by the group or other parties. Such contingencies may exist for various sites including refineries, chemical plants, oil fields, service stations, terminals and waste disposal sites. In addition, the group may have obligations relating to prior asset sales or closed facilities. The ultimate requirement for remediation and its cost are inherently difficult to estimate. However, the estimated cost of known environmental obligations has been provided in these accounts in accordance with the group’s accounting policies. While the amounts of future costs could be significant and could be material to the group’s results of operations in the period in which they are recognized, it is not practical to estimate the amounts involved. BP does not expect these costs to have a material effect on the group’s financial position or liquidity. The group generally restricts its purchase of insurance to situations where this is required for legal or contractual reasons. This is because external insurance is not considered an economic means of financing losses for the group. Losses will therefore be borne as they arise rather than being spread over time through insurance premiums with attendant transaction costs. The position is reviewed periodically. 45. Capital commitments Authorized future capital expenditure for property, plant and equipment by group companies for which contracts had been placed at 31 December 2008 amounted to $14,062 million (2007 $8,263 million). In addition, at 31 December 2008, the group had contracts in place for future capital expenditure relating to investments in jointly controlled entities of $644 million (2007 $1,039 million) and investments in associates of $160 million (2007 $74 million). Capital commitments of jointly controlled entities amounted to $1,540 million (2007 $2,273 million). 174 BP Annual Report and Accounts 2008 Notes on financial statements 46. Subsidiaries, jointly controlled entities and associates The more important subsidiaries, jointly controlled entities and associates of the group at 31 December 2008 and the group percentage of ordinary share capital or joint venture interest (to nearest whole number) are set out below. The principal country of operation is generally indicated by the company’s country of incorporation or by its name. Those held directly by the parent company are marked with an asterisk (*), the percentage owned being that of the group unless otherwise indicated. A complete list of investments in subsidiaries, jointly controlled entities and associates will be attached to the parent company’s annual return made to the Registrar of Companies. Country of Country of % incorporation Principal activities Subsidiaries % incorporation Principal activities Subsidiaries International *BP Corporate Holdings *BP Global Investments *BP International 100 England BP Exploration Op. Co. 100 England 100 England 100 England 100 England 100 England 100 Scotland *BP Shipping *Burmah Castrol BP Oil International Algeria BP Amoco Exploration (In Amenas) BP Exploration (El Djazair) Angola Investment holding Exploration and production Investment holding Integrated oil operations Integrated oil operations Shipping Lubricants Netherlands BP Capital BP Nederland New Zealand 100 Netherlands Finance 100 Netherlands Refining and marketing BP Oil New Zealand 100 New Zealand Marketing Norway BP Norge Spain 100 Norway Exploration and production 100 Scotland Exploration and production BP España 100 Spain Refining and marketing 100 Bahamas Exploration and production South Africa *BP Southern Africa 75 South Africa Refining and marketing BP Exploration (Angola) 100 England Exploration and production Trinidad & Tobago Australia BP Oil Australia BP Australia Capital Markets BP Developments Australia BP Finance Australia Azerbaijan Amoco Caspian Sea Petroleum BP Exploration 100 Australia Integrated oil operations Tobago 70 US Exploration and production BP Trinidad (LNG) BP Trinidad and 100 Netherlands Exploration and production 100 Australia Finance UK 100 Australia 100 Australia Exploration and production Finance BP Capital Markets BP Oil UK Britoil Jupiter Insurance 100 England 100 England 100 Scotland 100 Guernsey Finance Marketing Exploration and production Insurance British Virgin Exploration and production US 100 Islands *BP Holdings North America 100 England Investment holding (Caspian Sea) 100 England Exploration and production Canada BP Canada Energy BP Canada Finance 100 Canada 100 Canada Exploration and production Finance Egypt BP Egypt Co. BP Egypt Gas Co. 100 US 100 US Exploration and production Exploration and production Germany Deutsche BP Indonesia BP Berau BP West Java 100 Germany Refining and marketing and petrochemicals 100 US 100 US Exploration and production Exploration and production Atlantic Richfield Co. BP America BP America Production Company BP Amoco Chemical Company BP Company North America BP Corporation North America BP Exploration (Alaska) Inc. BP Products North America BP West Coast Products Standard Oil Co. BP Capital Markets America 100 US Exploration and production, refining and marketing, pipelines and petrochemicals Finance 175 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 46. Subsidiaries, jointly controlled entities and associates continued Country of incorporation or registration US US Trinidad & Tobago US Netherlands US Netherlands US Venezuela Germany China Canada British Virgin Islands Egypt Jointly controlled entities Angola LNG Supply Services Atlantic 4 Holdings Atlantic LNG 2/3 Company of Trinidad and Tobago BP-Husky Refining Elvary Neftegaz Holdings BV Fowler 1 Holdings LukArco Pan American Energya Petromonagas Ruhr Oel Shanghai SECCO Petrochemical Co. Sunrise Oil Sands TNK-BP United Gas Derivatives Company % 14 38 43 50 49 50 46 60 17 50 50 50 50 33 Principal activities LNG processing and transportation LNG manufacture LNG manufacture Refining Exploration and appraisal Wind farm development Exploration and production, pipelines Exploration and production Exploration and production Refining and marketing and petrochemicals Petrochemicals Exploration and production Integrated oil operations NGL extraction aPan American Energy is not controlled by BP as certain key business decisions require joint approval of both BP and the minority partner. It is therefore classified as a jointly controlled entity rather than a subsidiary. Associates Abu Dhabi Abu Dhabi Marine Areas Abu Dhabi Petroleum Co. Azerbaijan The Baku-Tbilisi-Ceyhan Pipeline Co. South Caucasus Pipeline Co. Trinidad & Tobago Atlantic LNG Company of Trinidad and Tobago % Country of incorporation Principal activities 37 24 30 26 34 England England Crude oil production Crude oil production Cayman Islands Cayman Islands Pipelines Pipelines Trinidad & Tobago LNG manufacture 176 BP Annual Report and Accounts 2008 Notes on financial statements 47. Oil and natural gas exploration and production activitiesa Capitalized costs at 31 December Gross capitalized costs Proved properties Unproved properties Accumulated depreciation Net capitalized costs UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total $ million 2008 34,614 626 35,240 26,564 8,676 5,507 – 5,507 3,125 2,382 59,918 5,006 64,924 28,511 36,413 11,451 299 11,750 6,358 5,392 4,720 1,019 5,739 2,181 3,558 21,563 2,011 23,574 10,451 13,123 – – – – – 8,550 464 9,014 3,159 5,855 146,323 9,425 155,748 80,349 75,399 The group’s share of jointly controlled entities’ and associates’ net capitalized costs at 31 December 2008 was $13,393 million. Costs incurred for the year ended 31 December Acquisition of properties Proved Unproved Exploration and appraisal costsb Development Total costs – 4 4 137 907 1,048 – – – – 695 695 1,374 2,942 4,316 862 4,914 10,092 2 – 2 123 1,077 1,202 – – – 79 465 544 – – – 838 2,966 3,804 – – – 12 – 12 136 41 177 239 743 1,159 1,512 2,987 4,499 2,290 11,767 18,556 The group’s share of jointly controlled entities’ and associates’ costs incurred in 2008 was $3,259 million: in Russia $1,921 million, Rest of Americas $1,039 million, Asia Pacific $24 million and other $275 million. Results of operations for the year ended 31 December Sales and other operating revenues Third parties Sales between businesses Exploration expenditure Production costs Production taxes Other costs (income)c Depreciation, depletion and amortization Impairments and (gains) losses on sale of businesses and fixed assets Profit before taxationd Allocable taxes Results of operations 3,865 4,374 8,239 121 1,357 503 (28) 1,049 – 3,002 5,237 2,280 2,957 105 1,416 1,521 1 150 – (43) 199 – 307 1,214 883 331 8,010 15,610 23,620 305 3,002 2,603 3,440 2,729 308 12,387 11,233 3,857 7,376 3,573 3,755 7,328 62 718 360 541 911 6 2,598 4,730 2,423 2,307 1,410 1,420 2,830 41 213 110 309 251 219 1,143 1,687 618 1,069 3,745 6,022 9,767 213 875 – 245 2,120 8 3,461 6,306 2,672 3,634 – – – 14 18 – 196 – – 228 (228) (36) (192) 549 11,087 11,636 125 334 3,083 4,041 624 – 8,207 3,429 879 2,550 21,257 43,684 64,941 882 6,667 6,659 8,701 7,883 541 31,333 33,608 13,576 20,032 The group’s share of jointly controlled entities’ and associates’ results of operations (including the group’s share of total TNK-BP results) in 2008 was a profit of $2,793 million after deducting interest of $355 million, taxation of $1,217 million and minority interest of $169 million. Exploration and Production segment profit before interest and tax Exploration and production activities Group (as above) Jointly controlled entities and associates Midstream activitiese Total profit before interest and tax 5,237 1,214 11,233 4,730 1,687 6,306 (228) 3,429 33,608 (1) 743 5,979 – 16 1,230 1 425 11,659 344 619 5,693 48 (228) 1,507 (1) 112 6,417 2,259 – 2,031 143 (173) 3,399 2,793 1,514 37,915 aThis note contains information relating to oil and natural gas exploration and production activities. Midstream activities relating to the management and ownership of crude oil and natural gas pipelines, processing and export terminals and LNG processing facilities and transportation are excluded. In addition, our midstream activities of marketing and trading of natural gas, power and NGLs in the US, Canada, UK and Europe are excluded. The most significant midstream pipeline interests include the Trans-Alaska Pipeline System, the Forties Pipeline System, the Central Area Transmission System pipeline and the Baku-Tbilisi-Ceyhan pipeline. Major LNG activities are located in Trinidad, Indonesia and Australia and BP is also investing in the LNG business in Angola. The group’s share of jointly controlled entities’ and associates’ activities are excluded from the tables and included in the footnotes with the exception of the Abu Dhabi operations, which are included in the results of operations above. bIncludes exploration and appraisal drilling expenditures, which are capitalized within intangible fixed assets, and geological and geophysical exploration costs, which are charged to income as incurred. cIncludes property taxes, other government take and the fair value loss on embedded derivatives of $102 million. The UK region includes a $499 million gain offset by corresponding charges primarily in the US, relating to the group self-insurance programme. dExcludes the unwinding of the discount on provisions and payables amounting to $285 million which is included in finance costs in the group income statement. eIncludes a $517 million write-down of our investment in Rosneft based on its quoted market price at the end of the year. 177 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Notes on financial statements 47. Oil and natural gas exploration and production activitiesa continued UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total $ million 2007 Capitalized costs at 31 December Gross capitalized costs Proved properties Unproved properties Accumulated depreciation Net capitalized costs 34,774 606 35,380 25,515 9,865 4,925 – 4,925 2,925 2,000 53,079 1,660 54,739 25,500 29,239 10,627 297 10,924 5,528 5,396 3,528 1,188 4,716 1,508 3,208 18,333 1,533 19,866 8,315 11,551 – 4 4 – 4 7,596 349 7,945 2,553 5,392 132,862 5,637 138,499 71,844 66,655 The group’s share of jointly controlled entities’ and associates’ net capitalized costs at 31 December 2007 was $11,787 million. Costs incurred for the year ended 31 December Acquisition of properties Proved Unproved Exploration and appraisal costsb Development costs Total costs – – – 209 804 1,013 – – – 16 443 459 245 54 299 646 3,861 4,806 – 16 16 72 1,057 1,145 – – – 51 333 384 – 321 321 677 2,634 3,632 – – – 119 – 119 232 126 358 102 1,021 1,481 477 517 994 1,892 10,153 13,039 The group’s share of jointly controlled entities’ and associates’ costs incurred in 2007 was $2,552 million: in Russia $1,787 million, Rest of Americas $569 million, Asia Pacific $17 million and other $179 million. Results of operations for the year ended 31 December Sales and other operating revenues Third parties Sales between businesses Exploration expenditure Production costs Production taxes Other costs (income)c Depreciation, depletion and amortization Impairments and (gains) losses on sale of businesses and fixed assets Profit before taxationd Allocable taxes Results of operations 4,503 2,260 6,763 46 1,658 227 (419) 1,569 112 3,193 3,570 1,664 1,906 434 902 1,336 – 147 3 123 207 (534) (54) 1,390 611 779 1,436 14,353 15,789 252 2,782 1,260 2,505 2,118 (413) 8,504 7,285 2,560 4,725 2,142 3,142 5,284 134 770 273 395 822 (43) 2,351 2,933 1,202 1,731 1,148 970 2,118 11 190 56 378 205 – 840 1,278 321 957 2,219 3,223 5,442 183 637 – 200 1,372 (76) 2,316 3,126 1,462 1,664 – – – 116 2 – 169 – – 287 (287) 3 (290) 921 9,983 10,904 14 344 2,224 3,018 995 – 6,595 4,309 1,079 3,230 12,803 34,833 47,636 756 6,530 4,043 6,369 7,288 (954) 24,032 23,604 8,902 14,702 The group’s share of jointly controlled entities’ and associates’ results of operations (including the group’s share of total TNK-BP results) in 2007 was a profit of $2,704 million after deducting interest of $401 million, taxation of $1,355 million and minority interest of $215 million. Exploration and Production segment profit before interest and tax Exploration and production activities Group (as above) Jointly controlled entities and associates Midstream activities Total profit before interest and tax 3,570 1,390 7,285 2,933 1,278 3,126 (287) 4,309 23,604 – 15 3,585 – 13 1,403 1 709 7,995 381 699 4,013 21 (108) 1,191 – 96 3,222 2,292 (112) 1,893 9 109 4,427 2,704 1,421 27,729 aThis note contains information relating to oil and natural gas exploration and production activities. Midstream activities relating to the management and ownership of crude oil and natural gas pipelines, processing and export terminals and LNG processing facilities and transportation are excluded. In addition, our midstream activities of marketing and trading of natural gas, power and NGLs in the US, Canada, UK and Europe are excluded. The most significant midstream pipeline interests include the Trans-Alaska Pipeline System, the Forties Pipeline System, the Central Area Transmission System pipeline and the Baku-Tbilisi-Ceyhan pipeline. Major LNG activities are located in Trinidad, Indonesia and Australia. The group’s share of jointly controlled entities’ and associates’ activities are excluded from the tables and included in the footnotes with the exception of the Abu Dhabi operations, which are included in the results of operations above. bIncludes exploration and appraisal drilling expenditures, which are capitalized within intangible fixed assets, and geological and geophysical exploration costs, which are charged to income as incurred. cIncludes property taxes, other government take and the fair value gain on embedded derivatives of $47 million. The UK region includes a $409 million gain offset by corresponding charges primarily in the US, relating to the group self-insurance programme. dExcludes the unwinding of the discount on provisions and payables amounting to $179 million which is included in finance costs in the group income statement. 178 BP Annual Report and Accounts 2008 Notes on financial statements 47. Oil and natural gas exploration and production activitiesa continued UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total $ million 2006 Capitalized costs at 31 December Gross capitalized costs Proved properties Unproved properties Accumulated depreciation Net capitalized costs 32,528 423 32,951 22,908 10,043 4,951 116 5,067 3,175 1,892 44,856 1,443 46,299 19,724 26,575 9,404 379 9,783 4,618 5,165 3,569 1,155 4,724 1,709 3,015 15,516 936 16,452 6,944 9,508 – 1 1 – 1 6,278 137 6,415 1,708 4,707 117,102 4,590 121,692 60,786 60,906 The group’s share of jointly controlled entities’ and associates’ net capitalized costs at 31 December 2006 was $10,870 million. Costs incurred for the year ended 31 December Acquisition of properties Proved Unproved Exploration and appraisal costsb Development costs Total costs – – – 132 794 926 – – – 26 214 240 – 74 74 838 3,579 4,491 – 8 8 135 820 963 – 2 2 45 238 285 – 70 70 434 2,356 2,860 – – – 73 – 73 – – – 82 1,108 1,190 – 154 154 1,765 9,109 11,028 The group’s share of jointly controlled entities’ and associates’ costs incurred in 2006 was $1,688 million: in Russia $1,109 million, Rest of Americas $424 million, Asia Pacific $16 million and other $139 million. Results of operations for the year ended 31 December Sales and other operating revenues Third parties Sales between businesses Exploration expenditure Production costs Production taxes Other costs (income)c Depreciation, depletion and amortization Impairments and (gains) losses on sale of businesses and fixed assets Profit before taxationd Allocable taxes Results of operations 5,378 2,329 7,707 20 1,312 492 (867) 1,612 (450) 2,119 5,588 2,567 3,021 628 1,024 1,652 (1) 145 38 90 213 (57) 428 1,224 793 431 1,381 14,572 15,953 634 2,311 887 2,561 2,083 (1,880) 6,596 9,357 3,136 6,221 2,196 3,229 5,425 132 638 295 478 685 42 2,270 3,155 1,443 1,712 1,159 807 1,966 11 155 63 154 175 (99) 459 1,507 472 1,035 1,647 2,875 4,522 132 509 – 104 865 (31) 1,579 2,943 1,328 1,615 – – – 17 – – 32 – – 49 (49) 3 (52) 768 7,640 8,408 100 238 2,079 3,121 510 – 6,048 2,360 737 1,623 13,157 32,476 45,633 1,045 5,308 3,854 5,673 6,143 (2,475) 19,548 26,085 10,479 15,606 The group’s share of jointly controlled entities’ and associates’ results of operations (including the group’s share of total TNK-BP results) in 2006 was a profit of $3,302 million after deducting interest of $324 million, taxation of $1,804 million and minority interest of $193 million. s t n e m e t a t s l i a c n a n F i Exploration and Production segment profit before interest and tax Exploration and production activities Group (as above) Jointly controlled entities and associates Midstream activities Total profit before interest and tax 5,588 1,224 9,357 3,155 1,507 2,943 (49) 2,360 26,085 – 519 6,107 – 154 1,378 1 617 9,975 535 445 4,135 33 (196) 1,344 1 37 2,981 2,730 (24) 2,657 2 14 2,376 3,302 1,566 30,953 aThis note contains information relating to oil and natural gas exploration and production activities. Midstream activities of natural gas gathering and distribution and the operation of the main pipelines and tankers are excluded. In addition, our midstream activities of marketing and trading of natural gas, power and NGLs in the US, Canada, UK and Europe are excluded. The main midstream activities are the Alaskan transportation facilities, the Forties Pipeline system and the Central Area Transmission System. The group’s share of jointly controlled entities’ and associates’ activities is excluded from the tables and included in the footnotes with the exception of the Abu Dhabi operations, which are included in the income and expenditure items above. bIncludes exploration and appraisal drilling expenditures, which are capitalized within intangible fixed assets, and geological and geophysical exploration costs, which are charged to income as incurred. cIncludes the value of royalty oil sold on behalf of others where royalty is payable in cash, property taxes, other government take and the fair value gain on embedded derivatives $515 million. dExcludes the unwinding of the discount on provisions and payables amounting to $153 million which is included in finance costs in the group income statement. 179 BP Annual Report and Accounts 2008 Additional information for US reporting Additional information for US reporting The notes below are included to meet ongoing US reporting obligations. 48. Auditor’s remuneration for US reporting Audit fees – Ernst & Young Group audit Audit-related regulatory reporting Statutory audit of subsidiaries Fees for other services – Ernst & Young Further assurance services Acquisition and disposal due diligence Pension plan audits Other further assurance services Tax services Compliance services Advisory services 2008 2007 $ million 2006 34 6 17 57 2 1 5 – 2 10 37 7 19 63 1 1 8 – 2 12 36 9 19 64 3 – 5 1 – 9 Audit fees for 2008 include $3 million of additional fees for 2007 (2007 $7 million of additional fees for 2006 and 2006 $5 million of additional fees for 2005). Audit fees are included in the income statement within distribution and administration expenses. Other further assurance services include nil (2007 $1 million and 2006 nil) in respect of advice on accounting, auditing and financial reporting matters; $5 million (2007 $5 million and 2006 $5 million) in respect of non-statutory audits and nil (2007 $2 million and 2006 nil) in respect of project assurance and advice on business and accounting process improvement. The tax services relate to income tax and indirect tax compliance, employee tax services and tax advisory services. The audit committee has established pre-approval policies and procedures for the engagement of Ernst & Young to render audit and certain assurance and tax services. The audit fees payable to Ernst & Young are reviewed by the audit committee in the context of other global companies for cost-effectiveness. Ernst & Young performed further assurance and tax services that were not prohibited by regulatory or other professional requirements and were pre-approved by the committee. Ernst & Young is engaged for these services when its expertise and experience of BP are important. Most of this work is of an audit nature. Tax services were awarded either through a full competitive tender process or following an assessment of the expertise of Ernst & Young compared with that of other potential service providers. These services are for a fixed term. 180 BP Annual Report and Accounts 2008 Additional information for US reporting 49. Valuation and qualifying accounts 2008 Fixed assets – Investmentsb Doubtful debtsb 2007 Fixed assets – Investmentsb Doubtful debtsb 2006 Fixed assets – Investmentsb Doubtful debtsb Balance at 1 January Charged to costs and expenses Additions Charged to other accountsa Deductions Balance at 31 December $ million 146 406 151 421 172 374 647 191 158 175 26 158 143 (32) 2 34 (3) 32 (1) (174) (165) (224) (44) (143) 935 391 146 406 151 421 aPrincipally currency transactions. bDeducted in the balance sheet from the assets to which they apply. 50. Computation of ratio of earnings to fixed charges For the year ended 31 December Profit before taxation Group’s share of income in excess of dividends from equity-accounted entities Capitalized interest, net of amortization Fixed charges Interest expense Rental expense representative of interest Capitalized interest Total adjusted earnings available for payment of fixed charges Ratio of earnings to fixed charges 2008 34,283 (93) 56 34,246 1,157 1,231 162 2,550 36,796 14.4 $ million, except ratios 2007 31,611 (1,359) (183) 30,069 1,110 1,033 323 2,466 32,535 13.2 2006 34,642 – (341) 34,301 718 946 478 2,142 36,443 17.0 s t n e m e t a t s l i a c n a n F i 181 BP Annual Report and Accounts 2008 Supplementary information on oil and natural gas Supplementary information on oil and natural gas Movements in estimated net proved reserves For details of BP’s governance process for the booking of oil and natural gas reserves, see page 19. BP estimates proved reserves for reporting purposes in accordance with SEC rules and relevant guidance. As currently required, these proved reserve estimates are based on prices and costs as of the date the estimate is made. There was a rapid and substantial decline in oil prices in the fourth quarter of 2008 that was not matched by a similar reduction in operating costs by the end of the year. BP does not expect that these economic conditions will continue. However, our 2008 reserves are calculated on the basis of operating activities that would be undertaken were year-end prices and costs to persist. Crude oila Subsidiaries At 1 January 2008 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Productionb Sales of reserves-in-place At 31 December 2008c Developed Undeveloped Equity-accounted entities (BP share) At 1 January 2008 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Production Sales of reserves-in-place At 31 December 2008d Developed Undeveloped UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total 2008 million barrels 414 123 537 16 – – 39 (63) – (8) 410 119 529 – – – – – – – – – – – – – 105 169 274 (11) – – 28 (16) – 1 81 194 275 – – – – – – – – – – – – – 1,882 1,265 3,147 (212) – 64 182 (191) – (157) 1,717 1,273 2,990e – – – – – – – – – – – – – 115 203 318 8 – 5 8 (26) (199) (204) 58 56 114 328 243 571 (3) 199 13 62 (34) – 237 399 409 808 61 77 138 16 – – 6 (14) – 8 77 69 146 1 – 1 – – – – – – – 1 – 1 256 350 606 264 – 173 18 (101) – 354 464 496 960 – – – 11 – – – – – 11 – 11 11 – – – – – – – – – – – – – 2,094 1,137 3,231 217 – 26 – (302) (1) (60) 2,227 944 3,171 104 368 472 183 – – 40 (44) – 179 174 477 651 573 205 778 (1) – – – (80) – (81) 498 199 697 2,937 2,555 5,492 264 – 242 321 (455) (199) 173 2,981 2,684 5,665 2,996 1,585 4,581 224 199 39 62 (416) (1) 107 3,125 1,563 4,688 aCrude oil includes NGLs and condensate. Proved reserves exclude royalties due to others, whether payable in cash or in kind where the royalty owner has a direct interest in the underlying production and the option and ability to make lifting and sales arrangements independently. bExcludes NGLs from processing plants in which an interest is held of 19 thousand barrels per day. cIncludes 807 million barrels of NGLs. Also includes 21 million barrels of crude oil in respect of the 30% minority interest in BP Trinidad and Tobago LLC. dIncludes 36 million barrels of NGLs. Also includes 216 million barrels of crude oil in respect of the 6.80% minority interest in TNK-BP. eProved reserves in the Prudhoe Bay field in Alaska include an estimated 54 million barrels upon which a net profits royalty will be payable over the life of the field under the terms of the BP Prudhoe Bay Royalty Trust. 182 BP Annual Report and Accounts 2008 Supplementary information on oil and natural gas Movements in estimated net proved reserves continued Natural gasa Subsidiaries At 1 January 2008 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Productionb Sales of reserves-in-place At 31 December 2008c Developed Undeveloped Equity-accounted entities (BP share) At 1 January 2008 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Productionb Sales of reserves-in-place At 31 December 2008d Developed Undeveloped UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total 2008 billion cubic feet 2,049 553 2,602 23 – – 77 (298) – (198) 1,822 582 2,404 – – – – – – – – – – – – – 63 410 473 (8) – – 9 (11) – (10) 61 402 463 – – – – – – – – – – – – – 10,670 4,705 15,375 (2,063) 183 549 1,322 (834) – (843) 9,059 5,473 14,532 – – – – – – – – – – – – – 3,683 8,394 12,077 (405) – 1,073 175 (1,040) (3) (200) 3,975 7,902 11,877 1,478 831 2,309 (96) 3 192 301 (188) – 212 1,498 1,023 2,521 1,822 4,817 6,639 326 – – 56 (264) – 118 2,482 4,275 6,757 39 37 76 (2) – – 11 (12) – (3) 37 36 73 990 1,410 2,400 142 – 82 6 (198) – 32 1,050 1,382 2,432 – – – 182 – – – – – 182 – 182 182 – – – – – – – – – – – – – 808 353 1,161 1,273 – – – (221) – 1,052 1,560 653 2,213 583 981 1,564 19,860 21,270 41,130 35 – 37 54 (150) – (24) (1,950) 183 1,741 1,699 (2,795) (3) (1,125) 507 1,033 1,540 18,956 21,049 40,005 148 76 224 – – – – (10) – (10) 139 75 214 2,473 1,297 3,770 1,357 3 192 312 (431) – 1,433 3,234 1,969 5,203 aProved reserves exclude royalties due to others, whether payable in cash or in kind where the royalty owner has a direct interest in the underlying production and the option and ability to make lifting and sales arrangements independently. bIncludes 193 billion cubic feet of natural gas consumed in operations, 149 billion cubic feet in subsidiaries, 44 billion cubic feet in equity-accounted entities and excludes 16.9 billion cubic feet of produced non-hydrocarbon components which meet regulatory requirements for sales. cIncludes 3,108 billion cubic feet of natural gas in respect of the 30% minority interest in BP Trinidad and Tobago LLC. dIncludes 131 billion cubic feet of natural gas in respect of the 5.92% minority interest in TNK-BP. 183 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Supplementary information on oil and natural gas Movements in estimated net proved reserves continued Crude oila Subsidiaries At 1 January 2007 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Productionb Sales of reserves-in-place At 31 December 2007c Developed Undeveloped Equity-accounted entities (BP share)d At 1 January 2007 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Production Sales of reserves-in-place At 31 December 2007e Developed Undeveloped UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total 2007 million barrels 458 146 604 (1) – – 7 (73) – (67) 414 123 537 – – – – – – – – – – – – – 189 97 286 (25) – 31 1 (19) – (12) 105 169 274 – – – – – – – – – – – – – 1,916 1,292 3,208 18 25 60 99 (169) (94) (61) 1,882 1,265 3,147f – – – – – – – – – – – – – 130 237 367 (29) – 1 6 (27) – (49) 115 203 318 221 139 360 178 – 2 59 (28) – 211 328 243 571 67 86 153 (7) – 2 5 (15) – (15) 61 77 138 1 – 1 – – – – – – – 1 – 1 193 512 705 (133) – 93 12 (71) – (99) 256 350 606 – – – – – – – – – – – – – – – – – – – – – – – – – – 2,200 644 2,844 413 16 283 – (304) (21) 387 2,094 1,137 3,231 88 482 570 (27) 8 – 1 (80) – (98) 104 368 472 520 163 683 167 – – 1 (73) – 95 573 205 778 3,041 2,852 5,893 (204) 33 187 131 (454) (94) (401) 2,937 2,555 5,492 2,942 946 3,888 758 16 285 60 (405) (21) 693 2,996 1,585 4,581 aCrude oil includes NGLs and condensate. Proved reserves exclude royalties due to others, whether payable in cash or in kind where the royalty owner has a direct interest in the underlying production and the option and ability to make lifting and sales arrangements independently. bExcludes NGLs from processing plants in which an interest is held of 54 thousand barrels per day. cIncludes 739 million barrels of NGLs. Also includes 20 million barrels of crude oil in respect of the 30% minority interest in BP Trinidad and Tobago LLC. dThe BP group holds interests, through associates, in onshore and offshore concessions in Abu Dhabi, expiring in 2014 and 2018 respectively. During the second quarter of 2007, we updated our reporting policy in Abu Dhabi to be consistent with general industry practice and as a result have started reporting production and reserves there gross of production taxes. This change resulted in an increase in our reserves of 153 million barrels and in our production of 33mb/d. eIncludes 26 million barrels of NGLs. Also includes 210 million barrels of crude oil in respect of the 6.51% minority interest in TNK-BP. fProved reserves in the Prudhoe Bay field in Alaska include an estimated 98 million barrels upon which a net profits royalty will be payable over the life of the field under the terms of the BP Prudhoe Bay Royalty Trust. 184 BP Annual Report and Accounts 2008 Supplementary information on oil and natural gas Movements in estimated net proved reserves continued Natural gasa Subsidiaries At 1 January 2007 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Productionb Sales of reserves-in-place At 31 December 2007c Developed Undeveloped Equity-accounted entities (BP share) At 1 January 2007 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Productionb Sales of reserves-in-place At 31 December 2007d Developed Undeveloped UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total 2007 billion cubic feet 1,968 825 2,793 93 – – 15 (299) – (191) 2,049 553 2,602 – – – – – – – – – – – – – 242 56 298 (37) – 293 1 (14) (68) 175 63 410 473 – – – – – – – – – – – – – 10,438 4,660 15,098 744 23 95 326 (879) (32) 277 10,670 4,705 15,375 – – – – – – – – – – – – – 3,932 9,194 13,126 (276) – 249 32 (1,047) (7) (1,049) 3,683 8,394 12,077 1,460 735 2,195 73 – 22 195 (176) – 114 1,478 831 2,309 1,359 5,202 6,561 140 – 88 111 (261) – 78 1,822 4,817 6,639 52 23 75 (2) – – 16 (13) – 1 39 37 76 1,032 1,675 2,707 (146) – 17 9 (187) – (307) 990 1,410 2,400 – – – – – – – – – – – – – – – – – – – – – – – – – – 1,087 184 1,271 61 8 – – (179) – (110) 808 353 1,161 331 1,254 1,585 19,302 22,866 42,168 (21) 109 – 5 (114) – (21) 497 132 742 499 (2,801) (107) (1,038) 583 981 1,564 19,860 21,270 41,130 170 52 222 11 – – – (9) – 2 148 76 224 2,769 994 3,763 143 8 22 211 (377) – 7 2,473 1,297 3,770 aProved reserves exclude royalties due to others, whether payable in cash or in kind where the royalty owner has a direct interest in the underlying production and the option and ability to make lifting and sales arrangements independently. bIncludes 202 billion cubic feet of natural gas consumed in operations, 161 billion cubic feet in subsidiaries, 41 billion cubic feet in equity-accounted entities and excludes 10.9 billion cubic feet of produced non-hydrocarbon components which meet regulatory requirements for sales. cIncludes 3,211 billion cubic feet of natural gas in respect of the 30% minority interest in BP Trinidad and Tobago LLC. dIncludes 68 billion cubic feet of natural gas in respect of the 5.88% minority interest in TNK-BP. 185 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Supplementary information on oil and natural gas Movements in estimated net proved reserves continued Crude oila Subsidiaries At 1 January 2006 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Productionb Sales of reserves-in-place At 31 December 2006c Developed Undeveloped Equity-accounted entities (BP share) At 1 January 2006 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Production Sales of reserves-in-place At 31 December 2006d Developed Undeveloped UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total 2006 million barrels 496 184 680 (3) – 3 26 (92) (10) (76) 458 146 604 – – – – – – – – – – – – – 225 86 311 (11) – – 9 (23) – (25) 189 97 286 – – – – – – – – – – – – – 1,984 1,429 3,413 (108) – 48 95 (178) (62) (205) 1,916 1,292 3,208e – – – – – – – – – – – – – 215 286 501 (9) – – 13 (39) (99) (134) 130 237 367 207 124 331 (2) 28 1 34 (28) (4) 29 221 139 360 70 95 165 – – 1 4 (17) – (12) 67 86 153 1 – 1 – – – – – – – 1 – 1 142 536 678 2 – 67 22 (64) – 27 193 512 705 – – – – – – – – – – – – – – – – – – – – – – – – – – 1,688 431 2,119 1,215 – – – (320) (170) 725 2,200 644 2,844 69 543 612 16 – – – (58) – (42) 88 482 570 590 164 754 (8) – – – (63) – (71) 520 163 683 3,201 3,159 6,360 (113) – 119 169 (471) (171) (467) 3,041 2,852 5,893 2,486 719 3,205 1,205 28 1 34 (411) (174) 683 2,942 946 3,888 aCrude oil includes NGLs and condensate. Proved reserves exclude royalties due to others, whether payable in cash or in kind where the royalty owner has a direct interest in the underlying production and the option to make lifting and sales arrangements independently. bExcludes NGLs from processing plants in which an interest is held of 55 thousand barrels per day. cIncludes 779 million barrels of NGLs. Also includes 23 million barrels of crude oil in respect of the 30% minority interest in BP Trinidad and Tobago LLC. dIncludes 28 million barrels of NGLs. Also includes 179 million barrels of crude oil in respect of the 6.29% minority interest in TNK-BP. eProved reserves in the Prudhoe Bay field in Alaska include an estimated 81 million barrels upon which a net profits royalty will be payable over the life of the field under the terms of the BP Prudhoe Bay Royalty Trust. 186 BP Annual Report and Accounts 2008 Supplementary information on oil and natural gas Movements in estimated net proved reserves continued Natural gasa Subsidiaries At 1 January 2006 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Productionb Sales of reserves-in-place At 31 December 2006c Developed Undeveloped Equity-accounted entities (BP share) At 1 January 2006 Developed Undeveloped Changes attributable to Revisions of previous estimates Purchases of reserves-in-place Discoveries and extensions Improved recovery Productionb Sales of reserves-in-place At 31 December 2006d Developed Undeveloped UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total 2006 billion cubic feet 2,382 904 3,286 (343) – 101 144 (370) (25) (493) 1,968 825 2,793 – – – – – – – – – – – – – 245 80 325 11 – – – (38) – (27) 242 56 298 – – – – – – – – – – – – – 11,184 4,198 15,382 3,560 10,504 14,064 (922) – 116 1,755 (941) (292) (284) (291) – – 344 (982) (9) (938) 10,438 4,660 15,098 3,932 9,194 13,126 – – – – – – – – – – – – – 1,492 848 2,340 7 – 23 73 (171) (77) (145) 1,460 735 2,195 1,459 5,375 6,834 (92) – 21 71 (273) – (273) 1,359 5,202 6,561 50 26 76 13 – – 1 (15) – (1) 52 23 75 934 2,000 2,934 (69) – 5 6 (169) – (227) 1,032 1,675 2,707 – – – – – – – – – – – – – – – – – – – – – – – – – – 1,089 169 1,258 217 – – – (204) – 13 1,087 184 1,271 281 1,342 1,623 20,045 24,403 44,448 33 – 2 9 (82) – (38) (1,673) – 245 2,329 (2,855) (326) (2,280) 331 1,254 1,585 19,302 22,866 42,168 130 52 182 47 – – – (7) – 40 170 52 222 2,761 1,095 3,856 284 – 23 74 (397) (77) (93) 2,769 994 3,763 aProved reserves exclude royalties due to others, whether payable in cash or in kind where the royalty owner has a direct interest in the underlying production and the option to make lifting and sales arrangements independently. bIncludes 178 billion cubic feet of natural gas consumed in operations, 147 billion cubic feet in subsidiaries, 31 billion cubic feet in equity-accounted entities and excludes 8.3 billion cubic feet of produced non-hydrocarbon components which meet regulatory requirements for sales. cIncludes 3,537 billion cubic feet of natural gas in respect of the 30% minority interest in BP Trinidad and Tobago LLC. dIncludes 99 billion cubic feet of natural gas in respect of the 7.77% minority interest in TNK-BP. 187 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Supplementary information on oil and natural gas Standardized measure of discounted future net cash flows and changes therein relating to proved oil and gas reserves The following tables set out the standardized measures of discounted future net cash flows, and changes therein, relating to crude oil and natural gas production from the group’s estimated proved reserves. This information is prepared in compliance with the requirements of FASB Statement of Financial Accounting Standards No. 69 – ’Disclosures about Oil and Gas Producing Activities’. Future net cash flows have been prepared on the basis of certain assumptions which may or may not be realized. These include the timing of future production, the estimation of crude oil and natural gas reserves and the application of year-end crude oil and natural gas prices and exchange rates. Furthermore, both reserves estimates and production forecasts are subject to revision as further technical information becomes available and economic conditions change. BP cautions against relying on the information presented because of the highly arbitrary nature of assumptions on which it is based and its lack of comparability with the historical cost information presented in the financial statements. At 31 December 2008 Future cash inflowsa Future production costb Future development costb Future taxationc Future net cash flows 10% annual discountd Standardized measure of discounted future net cash flowse At 31 December 2007 Future cash inflowsa Future production costb Future development costb Future taxationc Future net cash flows 10% annual discountd Standardized measure of discounted future net cash flowse At 31 December 2006 Future cash inflowsa Future production costb Future development costb Future taxationc Future net cash flows 10% annual discountd Standardized measure of discounted future net cash flowse UK Rest of Europe US Rest of Americas Asia Pacific Africa Other Total $ million 36,400 18,100 3,300 7,300 7,700 2,200 13,800 6,300 2,900 2,300 2,300 1,200 165,800 80,400 25,600 17,500 42,300 21,000 32,700 9,900 8,500 6,000 8,300 3,900 28,400 12,100 3,800 3,200 9,300 4,600 40,400 11,600 10,900 6,600 11,300 5,500 27,200 10,400 6,900 2,000 7,900 3,500 344,700 148,800 61,900 44,900 89,100 41,900 5,500 1,100 21,300 4,400 4,700 5,800 4,400 47,200 72,100 27,500 4,000 20,200 20,400 6,500 29,500 7,500 3,300 13,000 5,700 2,800 350,100 109,800 21,900 71,600 146,800 76,000 67,700 17,900 6,500 21,700 21,600 9,500 47,600 12,800 4,100 9,700 21,000 10,300 63,300 9,900 8,300 17,100 28,000 9,400 49,400 8,500 3,500 8,700 28,700 11,500 679,700 193,900 51,600 162,000 272,200 126,000 13,900 2,900 70,800 12,100 10,700 18,600 17,200 146,200 45,300 20,700 3,300 10,300 11,000 3,200 18,200 4,700 1,500 9,400 2,600 1,000 218,900 71,300 18,600 43,100 85,900 45,600 46,800 14,900 4,900 12,900 14,100 6,200 36,800 9,400 3,800 7,000 16,600 9,000 47,700 8,700 6,600 10,600 21,800 8,400 36,200 7,200 3,900 5,800 19,300 7,300 449,900 136,900 42,600 99,100 171,300 80,700 7,800 1,600 40,300 7,900 7,600 13,400 12,000 90,600 The following are the principal sources of change in the standardized measure of discounted future net cash flows: Sales and transfers of oil and gas produced, net of production costs Previously estimated development costs incurred during the year Extensions, discoveries and improved recovery, less related costs Net changes in prices and production cost Revisions of previous reserves estimates Net change in taxation Future development costs Net change in purchase and sales of reserves-in-place Addition of 10% annual discount Total change in the standardized measure during the yearf 2008 (43,600) 9,400 4,400 (146,800) 1,200 69,400 (7,400) (200) 14,600 (99,000) 2007 (28,300) 9,400 12,300 102,100 (12,200) (28,300) (7,800) (700) 9,100 55,600 $ million 2006 (35,800) 8,200 7,900 (43,900) (9,500) 32,200 (7,000) (2,500) 12,800 (37,600) aThe year-end marker prices used were Brent $36.55/bbl, Henry Hub $5.63/mmBtu (2007 Brent $96.02/bbl, Henry Hub $7.10/mmBtu and 2006 Brent $58.93/bbl, Henry Hub $5.52/mmBtu). bProduction costs, which include production taxes and development costs relating to future production of proved reserves, are based on year-end cost levels and assume continuation of existing economic conditions. Future decommissioning costs are included. cTaxation is computed using appropriate year-end statutory corporate income tax rates. dFuture net cash flows from oil and natural gas production are discounted at 10% regardless of the group assessment of the risk associated with its producing activities. eMinority interest in BP Trinidad and Tobago LLC amounted to $900 million at 31 December 2008 ($2,300 million at 31 December 2007 and $1,300 million at 31 December 2006). fTotal change in the standardized measure during the year includes the effect of exchange rate movements. 188 BP Annual Report and Accounts 2008 Supplementary information on oil and natural gas Equity-accounted entities In addition, at 31 December 2008, the group’s share of the standardized measure of discounted future net cash flows of equity-accounted entities amounted to $9,000 million ($28,300 million at 31 December 2007 and $14,700 million at 31 December 2006), excluding minority interest. Operational and statistical information The following tables present operational and statistical information related to production, drilling, productive wells and acreage. Crude oil and natural gas production The following table shows crude oil and natural gas production for the years ended 31 December 2008, 2007 and 2006. Production for the yeara Subsidiaries Crude oilb 2008 2007 2006 Natural gasc 2008 2007 2006 Equity-accounted entities (BP share) Crude oilb 2008 2007 2006 Natural gasc 2008 2007 2006 UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total 173 201 253 759 768 936 – – – – – – 43 51 61 23 29 91 – – – – – – 538 513 547 2,157 2,174 2,376 – – – – – – 75 82 108 2,777 2,798 2,645 92 77 77 454 429 416 37 41 44 699 699 727 1 1 1 31 33 37 277 195 177 484 468 430 – – – – – – – – – – – – 826 832 876 564 451 544 thousand barrels per day 1,263 1,304 1,351 120 221 161 million cubic feet per day 7,277 7,222 7,412 378 286 207 thousand barrels per day 1,138 1,110 1,124 219 200 170 million cubic feet per day 1,057 921 1,005 8 8 8 aProduction excludes royalties due to others whether payable in cash or in kind where the royalty owner has a direct interest in the underlying production and the option and ability to make lifting and sales arrangements independently. bCrude oil includes natural gas liquids and condensate. cNatural gas production excludes gas consumed in operations. Productive oil and gas wells and acreage The following tables show the number of gross and net productive oil and natural gas wells and total gross and net developed and undeveloped oil and natural gas acreage in which the group and its equity-accounted entities had interests as at 31 December 2008. A ‘gross’ well or acre is one in which a whole or fractional working interest is owned, while the number of ’net’ wells or acres is the sum of the whole or fractional working interests in gross wells or acres. Productive wells are producing wells and wells capable of production. Developed acreage is the acreage within the boundary of a field, on which development wells have been drilled, which could produce the reserves; while undeveloped acres are those on which wells have not been drilled or completed to a point that would permit the production of commercial quantities, whether or not such acres contain proved reserves. Number of productive wells at 31 December 2008 Oil wellsa Gas wellsb – gross – net – gross – net UK 273 147 310 142 Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total 81 25 – – 5,960 2,120 20,913 11,948 3,695 2,023 2,326 1,397 250 108 466 166 669 544 99 45 19,991 8,503 44 22 1,622 268 134 89 32,541 13,738 24,292 13,809 aIncludes approximately 966 gross (255 net) multiple completion wells (more than one formation producing into the same well bore). bIncludes approximately 2,631 gross (1,737 net) multiple completion wells. If one of the multiple completions in a well is an oil completion, the well is classified as an oil well. 189 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Supplementary information on oil and natural gas Oil and natural gas acreage at 31 December 2008 Developed – gross – net Undevelopeda – gross – net aUndeveloped acreage includes leases and concessions. UK Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total 390 193 1,615 916 64 18 519 234 7,657 4,783 7,733 5,332 3,151 1,414 15,586 9,081 1,251 327 7,433 2,782 500 212 21,524 16,009 4,072 1,768 10,079 4,544 Thousands of acres 18,961 9,407 79,321 44,996 1,876 692 14,832 6,098 Net oil and gas wells completed or abandoned The following table shows the number of net productive and dry exploratory and development oil and natural gas wells completed or abandoned in the years indicated by the group and its equity-accounted entities. Productive wells include wells in which hydrocarbons were encountered and the drilling or completion of which, in the case of exploratory wells, has been suspended pending further drilling or evaluation. A dry well is one found to be incapable of producing hydrocarbons in sufficient quantities to justify completion. 2008 Exploratory Productive Dry Development Productive Dry 2007 Exploratory Productive Dry Development Productive Dry 2006 Exploratory Productive Dry Development Productive Dry UK 0.8 – 6.6 0.2 1.6 – 0.4 0.6 0.1 – 4.9 – Rest of Europe – 0.5 0.5 – – – 0.8 – 0.1 – 1.6 – US 2.4 0.9 379.8 1.1 4.1 0.7 401.2 4.2 2.9 7.4 418.8 4.5 Rest of Americas Asia Pacific Africa Russia Other Total 4.4 0.5 140.8 3.8 0.5 0.5 46.0 8.8 0.5 1.0 154.0 5.0 1.1 0.4 23.3 0.8 1.1 0.4 13.8 – 1.0 1.5 12.4 0.2 4.3 2.6 18.6 1.5 6.1 1.6 15.3 – 3.2 0.5 23.8 – 12.5 23.0 10.0 19.5 16.0 9.0 246.0 9.5 15.6 5.7 227.2 20.8 – 0.5 26.6 1.3 1.7 1.0 15.8 – 1.4 0.3 14.5 1.0 25.5 28.4 606.2 28.2 31.1 13.2 739.3 23.1 24.8 16.4 857.2 31.5 Drilling and production activities in progress The following table shows the number of exploratory and development oil and natural gas wells in the process of being drilled by the group and its equity-accounted entities as at 31 December 2008. Suspended development wells and long-term suspended exploratory wells are also included in the table. At 31 December 2008 Exploratory Gross Net Development Gross Net UK 2.0 0.2 8.0 4.8 Rest of Europe US Rest of Americas Asia Pacific Africa Russia Other Total – – 2.0 0.5 27.0 12.8 480.0 291.5 5.0 2.8 27.0 16.1 1.0 0.2 8.0 3.2 4.0 2.6 15.0 6.1 7.0 3.0 20.0 7.5 3.0 2.3 20.0 5.6 49.0 23.9 580.0 335.3 190 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. Statement of directors’ responsibilities in respect of the parent company financial statements The directors are responsible for preparing the financial statements in accordance with applicable United Kingdom law and United Kingdom generally accepted accounting practice. Company law requires the directors to prepare financial statements for each financial year that give a true and fair view of the state of affairs of the company. In preparing these financial statements, the directors are required: (cid:129) To select suitable accounting policies and then apply them consistently. (cid:129) To make judgements and estimates that are reasonable and prudent. (cid:129) To state whether applicable accounting standards have been followed, subject to any material departures disclosed and explained in the financial statements. (cid:129) To prepare the financial statements on the going concern basis unless it is inappropriate to presume that the company will continue in business. The directors are also responsible for keeping proper accounting records that disclose with reasonable accuracy at any time the financial position of the company and enable them to ensure that the financial statements comply with the Companies Act 1985. They are also responsible for safeguarding the assets of the company and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities. Having made the requisite enquiries, so far as the directors are aware, there is no relevant audit information (as defined by Section 234ZA of the Companies Act 1985) of which the company’s auditors are unaware, and the directors have taken all the steps they ought to have taken to make themselves aware of any relevant audit information and to establish that the company’s auditors are aware of that information. s s t t n n e e m m e e t t a a t t s s l l i i a a c c n n a a n n F F i i 191 BOL06013_p191-207_web.qxp:BP_191-207 2/3/09 13:37 Page 192 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. Independent auditor’s report to the members of BP p.l.c. We have audited the parent company financial statements of BP p.l.c. for the year ended 31 December 2008 which comprise the company balance sheet, the company cash flow statement, the company statement of total recognized gains and losses and the related notes 1 to 13. These parent company financial statements have been prepared under the accounting policies set out therein. We have also audited the information in the Directors’ Remuneration Report that is described as having been audited. We have reported separately on the consolidated financial statements of BP p.l.c. for the year ended 31 December 2008. This report is made solely to the company’s members, as a body, in accordance with Section 235 of the Companies Act 1985. Our audit work has been undertaken so that we might state to the company’s members those matters we are required to state to them in an auditors’ report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the company and the company’s members as a body, for our audit work, for this report, or for the opinions we have formed. Respective responsibilities of directors and auditors The directors’ responsibilities for preparing the Annual Report, the Directors’ Remuneration Report and the parent company financial statements in accordance with applicable United Kingdom law and accounting standards (United Kingdom generally accepted accounting practice) are set out in the Statement of Directors’ Responsibilities. Our responsibility is to audit the parent company financial statements and the part of the Directors’ Remuneration Report to be audited in accordance with relevant legal and regulatory requirements and International Standards on Auditing (UK and Ireland). We report to you our opinion as to whether the parent company financial statements give a true and fair view and whether the parent company financial statements and the part of the Directors’ Remuneration Report to be audited have been properly prepared in accordance with the Companies Act 1985. We also report to you whether in our opinion the information given in the directors’ report is consistent with the financial statements. In addition we report to you if, in our opinion, the company has not kept proper accounting records, if we have not received all the information and explanations we require for our audit, or if information specified by law regarding directors’ remuneration and other transactions is not disclosed. We read other information contained in the Annual Report and consider whether it is consistent with the audited parent company financial statements. The other information comprises the Directors’ report and the unaudited part of the Directors’ Remuneration Report. We consider the implications for our report if we become aware of any apparent misstatements or material inconsistencies with the parent company financial statements. Our responsibilities do not extend to any other information. Basis of audit opinion We conducted our audit in accordance with International Standards on Auditing (UK and Ireland) issued by the Auditing Practices Board. An audit includes examination, on a test basis, of evidence relevant to the amounts and disclosures in the parent company financial statements and the part of the Directors’ Remuneration Report to be audited. It also includes an assessment of the significant estimates and judgements made by the directors in the preparation of the parent company financial statements, and of whether the accounting policies are appropriate to the company’s circumstances, consistently applied and adequately disclosed. We planned and performed our audit so as to obtain all the information and explanations which we considered necessary in order to provide us with sufficient evidence to give reasonable assurance that the parent company financial statements and the part of the Directors’ Remuneration Report to be audited are free from material misstatement, whether caused by fraud or other irregularity or error. In forming our opinion we also evaluated the overall adequacy of the presentation of information in the parent company financial statements and the part of the Directors’ Remuneration Report to be audited. Opinion In our opinion: (cid:129) The parent company financial statements give a true and fair view, in accordance with United Kingdom generally accepted accounting practice, of the state of the company’s affairs as at 31 December 2008. (cid:129) The parent company financial statements and the part of the Directors’ Remuneration Report to be audited have been properly prepared in accordance with the Companies Act 1985. (cid:129) The information given in the directors’ report is consistent with the parent company financial statements. Ernst & Young LLP Registered auditor London 24 February 2009 The maintenance and integrity of the BP p.l.c. website are the responsibility of the directors; the work carried out by the auditors does not involve consideration of these matters and, accordingly, the auditors accept no responsibility for any changes that may have occurred to the financial statements since they were initially presented on the website. Legislation in the United Kingdom governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions. 192 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. Company balance sheet At 31 December Fixed assets Investments Subsidiary undertakings Associated undertakings Total fixed assets Current assets Debtors – amounts falling due: Within one year After more than one year Deferred taxation Cash at bank and in hand Creditors – amounts falling due within one year Net current assets Total assets less current liabilities Creditors – amounts falling due after more than one year Net assets excluding pension plan surplus Defined benefit pension plan surplus Defined benefit pension plan deficit Net assets Represented by Capital and reserves Called-up share capital Share premium account Capital redemption reserve Merger reserve Own shares Treasury shares Share-based payment reserve Profit and loss account Note 2008 $ million 2007 3 3 4 4 2 5 5 6 6 7 8 8 8 8 8 8 8 88,971 2 88,973 88,962 2 88,964 6,129 1,174 77 11 7,391 2,609 4,782 93,755 80 93,675 1,185 (68) 94,792 5,176 9,763 1,072 26,509 (326) (21,513) 1,271 72,840 94,792 840 1,192 123 244 2,399 3,125 (726) 88,238 71 88,167 5,338 (81) 93,424 5,237 9,581 1,005 26,509 (60) (22,112) 982 72,282 93,424 The financial statements on pages 193-207 were approved by a duly appointed and authorized committee of the board of directors on 24 February 2009 and were signed on its behalf by: P D Sutherland Chairman Dr A B Hayward Group Chief Executive s t n e m e t a t s l i a c n a n F i 193 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. Company cash flow statement For the year ended 31 December Net cash (outflow) inflow from operating activities Servicing of finance and returns on investments Interest received Interest paid Dividends received Net cash inflow from servicing of finance and returns on investments Tax paid Capital expenditure and financial investment Payments for fixed assets – investments Proceeds from sale of fixed assets – investments Net cash inflow (outflow) for capital expenditure and financial investment Equity dividends paid Net cash inflow before financing Financing Issue of ordinary share capital for TNK-BP Other share-based payment movements Repurchase of ordinary share capital Net cash outflow from financing Increase (decrease) in cash Company statement of total recognized gains and losses For the year ended 31 December Profit for the year Currency translation differences Actuarial (loss) gain relating to pensions Tax on actuarial loss (gain) relating to pensions Total recognized gains and losses relating to the year Note 9 2008 (4,399) 2007 (833) 167 (167) 17,066 17,066 (2) – – – (10,342) 2,323 – 358 (2,914) (2,556) (233) 202 (381) 16,416 16,237 (1) (7) 8 1 (8,106) 7,298 – 464 (7,497) (7,033) 265 2008 17,715 (710) (5,122) 1,434 13,317 2007 16,013 89 698 (195) 16,605 9 6 2 $ million 2006 (3,703) 177 (702) 24,859 24,334 (3) (1,397) 2,240 843 (7,686) 13,785 1,250 422 (15,481) (13,809) (24) $ million 2006 23,628 558 1,120 (336) 24,970 194 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. Notes on financial statements 1. Accounting policies Accounting standards These accounts are prepared in accordance with applicable UK accounting standards. Accounting convention The accounts are prepared under the historical cost convention. Foreign currency transactions The functional currency is the currency of the primary economic environment in which an entity operates and is normally the currency in which the entity generates cash. Foreign currency transactions are booked in the functional currency at the exchange rate ruling on the date of transaction. Foreign currency monetary assets and liabilities are translated into the functional currency at rates of exchange ruling at the balance sheet date. Exchange differences are included in profit for the year. Exchange adjustments arising when the opening net assets and the profits for the year retained by non-US dollar functional currency branches are translated into US dollars are taken to a separate component of equity and reported in the statement of total recognized gains and losses. Investments Investments in subsidiaries and associated undertakings are held at cost. The company assesses investments for impairment whenever events or changes in circumstances indicate that the carrying value of an investment may not be recoverable. If any such indication of impairment exists, the company makes an estimate of its recoverable amount. Where the carrying amount of an investment exceeds its recoverable amount, the investment is considered impaired and is written down to its recoverable amount. Share-based payments Equity-settled transactions The cost of equity-settled transactions with employees is measured by reference to the fair value at the date at which they are granted and is recognized as an expense over the vesting period, which ends on the date on which the relevant employees become fully entitled to the award. Fair value is determined by using an appropriate valuation model. In valuing equity-settled transactions, no account is taken of any vesting conditions, other than conditions linked to the price of the shares of the company (market conditions). No expense is recognized for awards that do not ultimately vest, except for awards where vesting is conditional upon a market condition, which are treated as vesting irrespective of whether or not the market condition is satisfied, provided that all other performance conditions are satisfied. At each balance sheet date before vesting, the cumulative expense is calculated, representing the extent to which the vesting period has expired and management’s best estimate of the achievement or otherwise of non-market conditions and number of equity instruments that will ultimately vest or, in the case of an instrument subject to a market condition, be treated as vesting as described above. The movement in cumulative expense since the previous balance sheet date is recognized in the income statement, with a corresponding entry in equity. Where the terms of an equity-settled award are modified or a new award is designated as replacing a cancelled or settled award, the cost based on the original award terms continues to be recognized over the original vesting period. In addition, an expense is recognized over the remainder of the new vesting period for the incremental fair value of any modification, based on the difference between the fair value of the original award and the fair value of the modified award, both as measured on the date of the modification. No reduction is recognized if this difference is negative. Where an equity-settled award is cancelled, it is treated as if it had vested on the date of cancellation, and any cost not yet recognized in the income statement for the award is expensed immediately. Any compensation paid up to the fair value of the award at the cancellation or settlement date is deducted from equity, with any excess over fair value being treated as an expense in the income statement. Cash-settled transactions The cost of cash-settled transactions is measured at fair value and recognized as an expense over the vesting period, with a corresponding liability recognized on the balance sheet. Pensions and other post-retirement benefits For defined benefit pension and other post-retirement benefit plans, plan assets are measured at fair value and plan liabilities are measured on an actuarial basis using the projected unit credit method and discounted at an interest rate equivalent to the current rate of return on a high-quality corporate bond of equivalent currency and term to the plan liabilities. Full actuarial valuations are obtained at least every three years and are updated at each balance sheet date. The resulting surplus or deficit, net of taxation thereon, is presented separately above the total for net assets on the face of the balance sheet. The service cost of providing pension and other post-retirement benefits to employees for the year is charged to the income statement. The cost of making improvements to pension and other post-retirement benefits is recognized in the income statement immediately when the company becomes committed to the change. When a settlement (eliminating all obligations for benefits already accrued) or a curtailment (reducing future obligations as a result of a material reduction in the scheme membership or a reduction in future entitlement) occurs, the obligation and related plan assets are remeasured using current actuarial assumptions and the resultant gain or loss is recognized in the income statement during the period in which the settlement or curtailment occurs. A charge representing the unwinding of the discount on the plan liabilities during the year is included within other finance income. 195 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 1. Accounting policies continued A credit representing the expected return on the plan assets during the year is included within other finance income. This credit is based on an assessment made at the beginning of the year of long-term market returns on plan assets, adjusted for the effect on the fair value of plan assets of contributions received and benefits paid during the year. Actuarial gains and losses may result from: differences between the expected return and the actual return on plan assets; differences between the actuarial assumptions underlying the plan liabilities and actual experience during the year; or changes in the actuarial assumptions used in the valuation of the plan liabilities. Actuarial gains and losses, and taxation thereon, are recognized in the statement of total recognized gains and losses. Deferred taxation Deferred tax is recognized in respect of all timing differences that have originated but not reversed at the balance sheet date where transactions or events have occurred at that date that will result in an obligation to pay more, or a right to pay less, tax in the future. Deferred tax assets are recognized only to the extent that it is considered more likely than not that there will be suitable taxable profits from which the underlying timing differences can be deducted. Deferred tax is measured on an undiscounted basis at the tax rates that are expected to apply in the periods in which timing differences reverse, based on tax rates and laws enacted or substantively enacted at the balance sheet date. Use of estimates The preparation of accounts in conformity with generally accepted accounting practice requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the accounts and the reported amounts of revenues and expenses during the reporting period. Actual outcomes could differ from these estimates. 2. Taxation Tax included in the statement of total recognized gains and losses Deferred tax Origination and reversal of timing differences in the current year This comprises: Actuarial (loss) gain relating to pensions and other post-retirement benefits Deferred tax Deferred tax liability Pensions Deferred tax asset Other taxable timing differences Net deferred tax liability Analysis of movements during the year At 1 January Exchange adjustments Charge for the year on ordinary activities Charge (credit) for the year in the statement of total recognized gains and losses At 31 December 2008 2007 (1,434) (1,434) 195 195 $ million 2006 336 336 399 2,008 1,671 77 322 1,885 (276) 147 (1,434) 322 123 1,885 1,506 1 183 195 1,885 165 1,506 532 (18) 656 336 1,506 196 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 3. Fixed assets – investments Cost At 1 January 2008 Additions At 31 December 2008 Amounts provided At 1 January 2008 At 31 December 2008 Cost At 1 January 2007 Additions Deletions At 31 December 2007 Amounts provided At 1 January 2007 At 31 December 2007 Net book amount At 31 December 2008 At 31 December 2007 Subsidiary undertakings Shares Associated undertakings Shares Loans Total $ million 89,036 9 89,045 74 74 89,037 7 (8) 89,036 74 74 88,971 88,962 2 – 2 – – 2 – – 2 – – 2 2 2 – 2 2 2 2 – – 2 2 2 – – 89,040 9 89,049 76 76 89,041 7 (8) 89,040 76 76 88,973 88,964 The more important subsidiary undertakings of the company at 31 December 2008 and the percentage holding of ordinary share capital (to the nearest whole number) are set out below. The principal country of operation is generally indicated by the company’s country of incorporation or by its name. A complete list of investments in subsidiary undertakings, joint ventures and associated undertakings will be attached to the company’s annual return made to the Registrar of Companies. Subsidiary undertakings International BP Global Investments BP International BP Holdings North America BP Shipping BP Corporate Holdings Burmah Castrol % 100 100 100 100 100 100 Country of incorporation England England England England England Scotland Principal activities Investment holding Integrated oil operations Investment holding Shipping Investment holding Lubricants The carrying value of BP International Ltd in the accounts of the company at 31 December 2008 was $30.25 billion (2007 $30.25 billion and 2006 $30.25 billion). 4. Debtors Group undertakings Other The carrying amounts of debtors approximate their fair value. Within 1 year 6,126 3 6,129 2008 After 1 year 1,146 28 1,174 $ million 2007 After 1 year 1,153 39 1,192 Within 1 year 835 5 840 197 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 5. Creditors Group undertakings Accruals and deferred income Dividends Other Within 1 year 2,581 7 1 20 2,609 2008 After 1 year – 47 – 33 80 $ million 2007 After 1 year – 44 – 27 71 Within 1 year 2,571 10 1 543 3,125 The carrying amounts of creditors approximate their fair value. The profile of the maturity of the financial liabilities included in the balance sheet at 31 December is shown in the table below. These amounts are included within Creditors – amounts falling due after more than one year, and are denominated in US dollars. Due within 1 to 2 years 2 to 5 years More than 5 years 6. Pensions 2008 21 35 24 80 $ million 2007 15 28 28 71 The primary pension arrangement in the UK is a funded final salary pension plan that remains open to new employees. Retired employees draw the majority of their benefit as an annuity. The material financial assumptions used for estimating the benefit obligations of the plans are set out below. The assumptions used to evaluate accrued pension at 31 December in any year are used to determine pension expense for the following year, that is, the assumptions at 31 December 2008 are used to determine the pension liabilities at that date and the pension expense for 2009. Financial assumptions Expected long-term rate of return Discount rate for plan liabilities Rate of increase in salaries Rate of increase for pensions in payment Rate of increase in deferred pensions Inflation 2008 7.5 6.3 4.9 3.0 3.0 3.0 2007 7.4 5.7 5.1 3.2 3.2 3.2 In addition to the financial assumptions, we regularly review the demographic and mortality assumptions. The mortality assumption reflects best practice in the UK, and has been chosen with regard to the latest available published tables adjusted to reflect the experience of the group and an extrapolation of past longevity improvements into the future. As part of the triannual valuation of our pension plan, our mortality assumption was reviewed and updated at end-2008 resulting in an increase in the liability of around $800 million. Mortality assumptions Life expectancy at age 60 for a male currently aged 60 Life expectancy at age 60 for a male currently aged 40 Life expectancy at age 60 for a female currently aged 60 Life expectancy at age 60 for a female currently aged 40 2008 25.9 28.9 28.5 31.4 2007 24.0 25.1 26.9 27.9 % 2006 7.0 5.1 4.7 2.8 2.8 2.8 Years 2006 23.9 25.0 26.8 27.8 The market values of the various categories of asset held by the pension plan at 31 December are set out below. The market value of pension assets at the end of 2008 is lower compared with 2007 due to a fall in the market value of investments when expressed in their local currencies and a reduction in value that arises from changes in exchange rates (reducing the reported value of investments on consolidation when expressed in US dollars). Movements in the value of plan assets during the year are shown in detail on page 199. 198 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 6. Pensions continued Equities Bonds Property Cash Present value of plan liabilities Surplus in the plan Expected long-term rate of return % 8.0 6.3 6.5 2.9 7.5 2008 Market value $ million 13,106 2,610 932 282 16,930 15,414 1,516 Expected long-term rate of return % 8.0 4.4 6.5 5.6 7.4 Analysis of the amount charged to operating profit Current service cost Past service cost Settlement, curtailment and special termination benefits Total operating charge Analysis of the amount credited (charged) to other finance income Expected return on pension plan assets Interest on pension plan liabilities Other finance income Analysis of the amount recognized in the statement of total recognized gains and losses Actual return less expected return on pension plan assets Change in assumptions underlying the present value of the plan liabilities Experience gains and losses arising on the plan liabilities Actuarial (loss) gain recognized in statement of total recognized gains and losses 2007 Market value $ million 22,869 4,456 1,173 913 29,411 22,146 7,265 Expected long-term rate of return % 7.5 4.7 6.5 3.8 7.0 2008 2007 434 7 29 470 1,969 (1,146) 823 (6,533) 1,476 (65) (5,122) 473 5 35 513 1,927 (1,108) 819 404 751 (457) 698 $ million 2006 Market value $ million 22,256 3,305 1,274 334 27,169 21,507 5,662 $ million 2006 411 (74) – 337 1,593 (918) 675 1,252 79 (211) 1,120 2008 2007 Movements in benefit obligations during the year Benefit obligation at 1 January Exchange adjustment Current service cost Past service cost Interest cost Curtailment Settlement Special termination benefits Contributions by plan participants Benefit payments (funded plans) Benefit payments (unfunded plans) Disposals Actuarial gain on obligation Benefit obligation at 31 December Movements in fair value of plan assets during the year Fair value of plan assets at 1 January Exchange adjustment Expected return on plan assets Contributions by plan participants Contributions by employers (funded plans) Benefit payments (funded plans) Disposals Actuarial (loss) gain on plan assets Fair value of plan assets at 31 Decembera Surplus (deficit) at 31 December aReflects $16,887 million of assets held in the BP Pension Fund (2007 $29,372 million) and $43 million held in the BP Global Pension Trust (2007 $39 million). 22,146 (5,929) 434 7 1,147 – (3) 32 41 (1,048) (2) – (1,411) 15,414 29,411 (6,916) 1,969 41 6 (1,048) – (6,533) 16,930 1,516 21,507 363 473 5 1,108 (7) (3) 45 41 (998) (3) (91) (294) 22,146 27,169 452 1,927 41 507 (998) (91) 404 29,411 7,265 199 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 6. Pensions continued Surplus (deficit) at 31 December Represented by Asset recognized Liability recognized The surplus (deficit) may be analysed between funded and unfunded plans as follows Funded Unfunded The defined benefit obligation may be analysed between funded and unfunded plans as follows Fundeda Unfunded Reconciliation of plan surplus to balance sheet Surplus at 31 December Deferred tax Represented by Asset recognized on balance sheet Liability recognized on balance sheet 2008 1,516 1,608 (92) 1,516 1,608 (92) 1,516 $ million 2007 7,265 7,381 (116) 7,265 7,381 (116) 7,265 (15,322) (92) (15,414) (22,030) (116) (22,146) 2008 1,516 (399) 1,117 1,185 (68) 1,117 $ million 2007 7,265 (2,008) 5,257 5,338 (81) 5,257 aReflects $15,280 million of liabilities of the BP Pension Fund (2007 $21,992 million) and $42 million of liabilities of the BP Global Pension Trust (2007 $38 million). The aggregate level of employer contributions into the BP Pension Fund in 2009 is expected to be nil. History of surplus (deficit) and of experience gains and losses Benefit obligation at 31 December Fair value of plan assets at 31 December Surplus Experience gains and losses on plan liabilities Amount ($ million) Percentage of benefit obligation Actual return less expected return on pension plan assets Amount ($ million) Percentage of plan assets Actuarial gain (loss) recognized in statement of total recognized gains and losses Amount ($ million) Percentage of benefit obligation 2008 2007 2006 2005 $ million 2004 15,414 16,930 1,516 22,146 29,411 7,265 21,507 27,169 5,662 18,316 21,542 3,226 18,613 20,706 2,093 (65) 0% (155) (1)% (211) (1)% (66) 0% (6,533) (39)% (5,122) (33)% 404 1% 698 3% 1,252 2,946 5% 14% 1,120 1,159 6% 6% 157 1% 750 4% 197 1% Cumulative amount recognized in statement of total recognized gains and losses (1,107) 4,015 3,317 2,197 1,038 200 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 7. Called-up share capital The allotted, called-up and fully paid share capital at 31 December was as follows: Issued 8% cumulative first preference shares of £1 each 9% cumulative second preference shares of £1 each Ordinary shares of 25 cents each 1 January Issue of new shares for employee share schemes Repurchase of ordinary share capital 31 December Authorized 8% cumulative first preference shares of £1 each 9% cumulative second preference shares of £1 each Ordinary shares of 25 cents each Shares (thousand) 7,233 5,473 20,863,424 24,791 (269,757) 20,618,458 2008 $ million 12 9 21 Shares (thousand) 7,233 5,473 6 (67) 5,216 21,457,301 69,273 (663,150) 5,155 20,863,424 5,176 7,250 5,500 36,000,000 12 9 7,250 5,500 9,000 36,000,000 2007 $ million 12 9 21 5,364 18 (166) 5,216 5,237 12 9 9,000 Voting on substantive resolutions tabled at a general meeting is on a poll. On a poll, shareholders present in person or by proxy have two votes for every £5 in nominal amount of the first and second preference shares held and one vote for every ordinary share held. On a show-of-hands vote on other resolutions (procedural matters) at a general meeting, shareholders present in person or by proxy have one vote each. In the event of the winding up of the company, preference shareholders would be entitled to a sum equal to the capital paid up on the preference shares plus an amount in respect of accrued and unpaid dividends and a premium equal to the higher of (i) 10% of the capital paid up on the preference shares and (ii) the excess of the average market price of such shares on the London Stock Exchange during the previous six months over par value. Repurchase of ordinary share capital The company purchased 269,757,188 ordinary shares (2007 663,149,528 and 2006 1,334,362,750 ordinary shares) for a total consideration of $2,914 million (2007 $7,497 million and 2006 $15,481 million), of which all were for cancellation. At 31 December 2008, 1,888,151,157 shares of nominal value $472 million were held in treasury (2007 1,940,638,808 shares of nominal value $485 million). Transaction costs of share repurchases amounted to $16 million (2007 $40 million and 2006 $83 million). 8. Capital and reserves At 1 January 2008 Currency translation differences Actuarial loss on pensions (net of tax) Repurchase of ordinary share capital Share-based payments Profit for the year Dividends At 31 December 2008 Share capital 5,237 – – (67) 6 – – 5,176 Share Capital premium redemption reserve 1,005 account 9,581 Merger reserve 26,509 Own shares (60) Treasury shares (22,112) Share-based payment reserve 982 Profit and loss account 72,282 $ million Total 93,424 – – – 182 – – 9,763 – – 67 – – – 1,072 – – – – – – 26,509 – – – (266) – – (326) – – – 599 – – (21,513) – – – 289 – – 1,271 (710) (710) (3,688) (3,688) (2,414) (3) 17,715 (10,342) 72,840 (2,414) 807 17,715 (10,342) 94,792 201 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 8. Capital and reserves continued At 1 January 2007 Currency translation differences Actuarial gain on pensions (net of tax) Repurchase of ordinary share capital Share-based payments Profit for the year Dividends At 31 December 2007 Share capital 5,385 – – (166) 18 – – 5,237 Share premium account 9,074 Capital redemption reserve 839 Merger reserve 26,504 Other reserves 5 Own shares (154) Treasury shares (22,182) Share-based payment reserve 789 – – – 507 – – 9,581 – – 166 – – – 1,005 – – – 5 – – 26,509 – – – (5) – – – – – – 94 – – (60) – – – 70 – – (22,112) – – – 193 – – 982 Profit and loss account 71,858 89 503 (7,997) (78) 16,013 (8,106) 72,282 $ million Total 92,118 89 503 (7,997) 804 16,013 (8,106) 93,424 As a consolidated income statement is presented for the group, a separate income statement for the parent company is not required to be published. The profit and loss account reserve includes $24,107 million (2007 $27,428 million and 2006 $26,668 million), the distribution of which is limited by statutory or other restrictions. The company does not account for dividends until they have been paid.The accounts for the year ended 31 December 2008 do not reflect the dividend announced on 3 February 2009 and payable in March 2009; this will be treated as an appropriation of profit in the year ended 31 December 2009. 9. Cash flow Reconciliation of net cash flow to movement of funds Increase (decrease) in cash Movement of funds Net cash at 1 January Net cash at 31 December Notes on cash flow statement (a) Reconciliation of operating profit to net cash (outflow) inflow from operating activities Operating profit Net operating charge for pensions and other post-retirement benefits, less contributions Dividends, interest and other income Share-based payments (Increase) decrease in debtors Increase (decrease) in creditors Net cash outflow from operating activities (b) Analysis of movements of funds Cash at bank 10. Contingent liabilities 2008 2007 265 265 (21) 244 2007 15,699 7 (16,624) 338 2,238 (2,491) (833) $ million 2006 (24) (24) 3 (21) 2006 24,768 (83) (25,036) 325 (2,140) (1,537) (3,703) $ million At Cash 31 December 2008 flow 11 (233) (233) (233) 244 11 2008 17,211 461 (17,239) 446 (5,271) (7) (4,399) At 1 January 2008 244 The parent company has issued guarantees under which amounts outstanding at 31 December 2008 were $30,063 million (2007 $27,665 million and 2006 $20,458 million), including $30,008 million (2007 $27,610 million and 2006 $20,402 million) in respect of borrowings by its subsidiary undertakings and $55 million (2007 $55 million and 2006 $56 million) in respect of liabilities of other third parties. 202 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 11. Share-based payments Effect of share-based payment transactions on the company’s result and financial position Total expense recognized for equity-settled share-based payment transactions Total (credit) expense recognized for cash-settled share-based payment transactions Total expense recognized for share-based payment transactions Closing balance of liability for cash-settled share-based payment transactions Total intrinsic value for vested cash-settled share-based payments 2008 524 (16) 508 21 2 2007 412 16 428 40 22 $ million 2006 405 14 419 38 23 For ease of presentation, option and share holdings detailed in the tables within this note are stated as UK ordinary share equivalents in US dollars. US employees are granted American Depositary Shares (ADSs) or options over the company’s ADSs (one ADS is equivalent to six ordinary shares). The share-based payment plans that existed during the year are detailed below. All plans are ongoing unless otherwise stated. Plans for executive directors Executive Directors’ Incentive Plan (EDIP) – share element An equity-settled incentive share plan for executive directors driven by one performance measure over a three-year performance period. The award of shares is determined by comparing BP’s total shareholder return (TSR) against the other oil majors. After the performance period, the shares that vest (net of tax) are then subject to a three-year retention period. In February 2008 it was considered appropriate to strengthen the retention element of remuneration for two executive directors. The remuneration committee granted, on a one-off basis, a restricted share award to those two executive directors. The shares will vest subject to continued service, in equal tranches, after three and five years. Vesting of each tranche is dependent on the committee being satisfied, at each vesting date, with the performance of the individuals. These retention awards have been granted under EDIP which permits awards to be made, on an exceptional basis, subject to a requirement of continued service over a specific period. The directors’ remuneration report on pages 77 to 87 includes full details of this plan. Executive Directors’ Incentive Plan (EDIP) – share option element An equity-settled share option plan for executive directors that permits options to be granted at an exercise price no lower than the market price of a share on the date that the option is granted. Options vest over three years (one-third each after one, two and three years respectively) and must be exercised within seven years of the date of grant. Last grants were made in 2004. From 2005 onwards the remuneration committee’s policy is not to make further grants of share options to executive directors. Plans for senior employees Medium Term Performance Plan (MTPP) An equity-settled restricted share unit plan for senior employees driven by two performance measures over a three-year performance period. At the end of the performance period units are converted into shares. The amount of units converted to shares is determined by comparing BP’s TSR against the other oil majors and, additionally, by comparing free cash flow (FCF) against a threshold established for the period. For a small group of particularly senior employees only the TSR measure is applicable in determining the award. The number of units converted into shares is increased to take account of the net notional dividends that would have been received during the performance period, assuming that such dividends would have been reinvested. With regard to leaver provisions the general rule is that leaving employment during the performance period will preclude the conversion of units into shares. However, special arrangements apply where the participant leaves for a qualifying reason and employment ceases after completion of the first year of the performance period. The current policy of the company, which is reflected in the terms of the MTPP, is that senior employees subject to the plan should meet a minimum shareholding requirement. Grants will not be made under this plan after 2008. Senior Employees Deferred Annual Bonus Plan (DAB) An equity-settled restricted share unit plan for senior employees. In 2008 the grant value is equal to 50% (2007 and 2006 50%) of the annual cash bonus awarded for the preceding performance year (the ‘performance period’). For 2009 this will increase to 100%. The units are restricted for a period of three years (the ‘restriction period’), during which they accrue net notional dividends which are treated as having been reinvested. At the end of the restriction period units are converted into shares. With regard to leaver provisions, if a participant ceases to be employed by BP prior to the end of the performance period the general rule is that this will preclude the grant of units. If a participant ceases to be employed by BP prior to the end of the restriction period the general rule is that this will preclude the conversion of units into shares. However, special arrangements apply where the participant leaves for a qualifying reason. Integrated Supply and Trading Deferred Annual Bonus Plan (IST DAB) An equity-settled restricted share unit plan for traders in the IST function. The plan operates under the DAB but the rules differ in certain respects from that plan. If eligible, a portion of a trader’s annual cash bonus (the ‘base grant’), awarded for the preceding performance year (the ‘performance period’), plus an additional 25% of that amount (the ‘additional grant’),will be deferred in restricted share units. The units are restricted over a period of three calendar years, during which they accrue net notional dividends, which are treated as having been reinvested. At the end of the restriction period units are converted into shares. One third of the base grant vests after one and two calendar years respectively, with the final third plus the additional grant vesting after three calendar years. With regard to leaver provisions, if a participant ceases to be employed by BP prior to the end of the restriction period the general rule is that this will preclude the conversion of units into shares. Special arrangements apply where the participant leaves for a qualifying reason. 203 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 11. Share-based payments continued Performance Share Plan (PSP) An equity-settled restricted share unit plan for senior professionals and team leaders. The grant takes into account the recipient’s performance in the prior calendar year (the ‘performance period’). The units are restricted for a period of three years (the ‘restriction period’), during which they accrue net notional dividends, which are treated as having been reinvested. At the end of the restriction period additional units may be awarded based on BP’s TSR performance against the other oil majors. At the end of the restriction period units are converted into shares. With regard to leaver provisions the general rule is that leaving during the performance period will preclude the grant of units. If a participant ceases to be employed by BP prior to the end of the restriction period the general rule is that this will preclude the conversion of units into shares. Special arrangements apply where the participant leaves for a qualifying reason. Restricted Share Plan (RSP) An equity-settled restricted share unit plan used predominantly for senior employees in special circumstances (such as recruitment and retention). There are generally no performance conditions but the units are subject to a three-year restriction period, during which they accrue net notional dividends which are treated as having been reinvested. At the end of the restricted period the units are converted into shares. With regard to leaver provisions, if a participant ceases to be employed by BP prior to the end of the restriction period the general rule is that this will preclude the conversion of units into shares. Special arrangements apply where the participant leaves for a qualifying reason. BP Share Option Plan (BPSOP) An equity-settled share option plan that applies to certain categories of employees. Participants are granted share options with an exercise price no lower than the market price of a share immediately preceding the date of grant. There are no performance conditions and the options are exercisable between the third and tenth anniversaries of the grant date. The general rule is that the options will lapse if the participant leaves employment before the end of the third calendar year from the date of grant (and that vested options are exercisable within 31⁄2 years from the date of leaving). However, special arrangements apply where the participant leaves for a qualifying reason and employment ceases after the end of the calendar year of the date of grant. From 2007 share options no longer form a regular element of our incentive plans. Savings and matching plans BP ShareSave Plan This is a savings-related share option plan under which employees save on a monthly basis, over a three-year or five-year period, towards the purchase of shares at a fixed price determined when the option is granted. This price is usually set at a 20% discount to the market price at the time of grant. The option must be exercised within six months of maturity of the savings contract; otherwise it lapses. The plan is run in the UK and options are granted annually, usually in June. Participants leaving for a qualifying reason will have six months in which to use their savings to exercise their options on a pro rated basis. BP ShareMatch Plans These are matching share plans under which BP matches employees’ own contributions of shares up to a predetermined limit. The plans are run in the UK and in more than 70 other countries. The UK plan is run on a monthly basis with shares being held in trust for five years before they can be released free of any income tax and national insurance liability. In other countries the plan is run on an annual basis with shares being held in trust for three years. The plan is operated on a cash basis in those countries where there are regulatory restrictions preventing the holding of BP shares. When the employee leaves BP all shares must be removed from trust and units under the plan operated on a cash basis must be encashed. Local plans In some countries BP provides local scheme benefits, the rules and qualifications for which vary according to local circumstances. The above share plans are indicated as being equity-settled. In certain countries however, it is not possible to award shares to employees owing to local legislation. In these instances the award will be settled in cash, calculated as the cash equivalent of the value to the employee of an equity-settled plan. Cash plans Cash-settled share-based payments/Stock Appreciation Rights (SARs) These are cash-settled share-based payments available to certain employees that require the group to pay the intrinsic value of the cash option/SAR/ restricted shares to the employee at the date of exercise or on maturity. The cash options/SARs have the same rules as the BPSOP plan and the cash restricted share plans (MTPP, DAB, PSP, RSP) have the same rules as their equity-settled counterparts. Employee Share Ownership Plans (ESOPs) ESOPs have been established to acquire BP shares to satisfy any awards made to participants under the BP share plans as required. The ESOPs have waived their rights to dividends on shares held for future awards and are funded by the group. Until such time as the company’s own shares held by the ESOP trusts vest unconditionally to employees, the amount paid for those shares is deducted in arriving at shareholders’ equity (see Note 8). Assets and liabilities of the ESOPs are recognized as assets and liabilities of the company. 204 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 11. Share-based payments continued At 31 December 2008 the ESOPs held 29,051,082 shares (2007 6,448,838 shares and 2006 12,795,887 shares) for potential future awards, which had a market value of $220 million (2007 $79 million and 2006 $142 million). Share option transactions Outstanding at 1 January Granted Forfeited Exercised Expired Outstanding at 31 December Exercisable at 31 December 2008 Weighted average exercise price $ 8.51 8.96 8.50 6.97 7.00 8.70 8.22 Number of options 358,094,243 8,062,899 (2,502,784) (37,277,895) (121,864) 326,254,599 260,178,938 2007 Weighted average exercise price $ 8.25 9.11 9.10 6.94 8.68 8.51 7.70 Number of options 426,471,462 6,004,025 (3,924,714) (69,715,558) (740,972) 358,094,243 238,707,055 2006 Weighted average exercise price $ 7.64 11.18 8.69 6.52 7.99 8.25 7.41 Number of options 450,453,502 53,977,639 (7,169,710) (70,658,480) (131,489) 426,471,462 236,726,966 As share options are exercised continuously throughout the year, the weighted average share price during the year of $10.87 (2007 $11.72 and 2006 $11.85) is representative of the weighted average share price at the date of exercise. For the options outstanding at 31 December 2008, the exercise price ranges and weighted average remaining contractual lives are shown below. Range of exercise prices $5.71 – $7.25 $7.26 – $8.80 $8.81 – $10.36 $10.37 – $11.92 Fair values and associated details for options and shares granted Options outstanding Options exercisable Number of shares 51,430,951 159,708,260 42,960,673 72,154,715 326,254,599 Weighted average remaining life years 3.81 3.12 4.53 6.81 4.23 Weighted average exercise price $ 6.39 8.11 9.53 11.14 8.70 Number of shares 48,919,680 157,933,135 26,083,268 27,242,855 260,178,938 Weighted average exercise price $ 6.35 8.11 9.83 10.67 8.22 Options granted in 2008 Option pricing model used Weighted average fair value Weighted average share price Weighted average exercise price Expected volatility Option life Expected dividends Risk free interest rate Expected exercise behaviour Options granted in 2007 Option pricing model used Weighted average fair value Weighted average share price Weighted average exercise price Expected volatility Option life Expected dividends Risk free interest rate Expected exercise behaviour ShareSave 3 year Binomial $1.82 $11.26 $9.70 23% 3.5 years 4.60% 5.00% 100% year 4 ShareSave 3 year Binomial $3.57 $12.10 $9.13 21% 3.5 years 3.48% 5.75% 100% year 4 ShareSave 5 year Binomial $1.74 $11.26 $9.70 23% 5.5 years 4.60% 5.00% 100% year 6 ShareSave 5 year Binomial $3.79 $12.10 $9.13 21% 5.5 years 3.48% 5.75% 100% year 6 205 s t n e m e t a t s l i a c n a n F i BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 11. Share-based payments continued Options granted in 2006 Option pricing model used Weighted average fair value Weighted average share price Weighted average exercise price Expected volatility Option life Expected dividends Risk free interest rate Expected exercise behaviour BPSOP Binomial $2.46 $11.07 $11.17 22% 10 years 3.23% 4.50% 5% years 4-9, 70% year 10 ShareSave 3 year Binomial $2.88 $11.08 $9.10 24% 3.5 years 3.40% 5.00% 100% year 4 ShareSave 5 year Binomial $3.08 $11.08 $9.10 24% 5.5 years 3.40% 4.75% 100% year 6 The group uses an appropriate valuation model of expected volatility of US ADSs for the quarter within which the grant date of the relevant plan falls. Management is responsible for all inputs and assumptions in relation to that model, including the determination of expected volatility. Shares granted in 2008 Number of equity instruments granted (million) Weighted average fair value Fair value measurement basis Shares granted in 2007 Number of equity instruments granted (million) Weighted average fair value Fair value measurement basis Shares granted in 2006 Number of equity instruments granted (million) Weighted average fair value Fair value measurement basis MTPP- TSR 9.1 $5.07 Monte Carlo MTPP- TSR 9.4 $4.73 Monte Carlo MTPP- FCF 9.1 $10.34 Market value MTPP- FCF 8.5 $10.02 Market value MTPP- TSR 8.7 $7.28 Monte Carlo EDIP- TSR 2.6 $4.55 Monte Carlo EDIP- TSR 4.5 $2.81 Monte Carlo MTPP- FCF 7.8 $11.23 Market value EDIP- RET 0.5 $11.13 Market value EDIP- LTL 0.5 $9.92 Market value EDIP- TSR 3.3 $4.87 Monte Carlo RSP 7.7 $8.83 Market value DAB 5.8 $10.34 Market value RSP 7.7 $11.93 Market value EDIP- LTL 0.5 $11.23 Market value DAB 4.4 $10.02 Market value RSP 0.5 $11.07 Market value PSP 16.7 $12.89 Monte Carlo PSP 14.8 $12.37 Monte Carlo DAB 3.5 $11.06 Market value The group used a Monte Carlo simulation to fair value the TSR element of the 2008, 2007 and 2006 PSP, MTPP and EDIP plans. In accordance with the rules of the plans the model simulates BP’s TSR and compares it against our principal strategic competitors over the three-year period of the plans. The model takes into account the historic dividends, share price volatilities and covariances of BP and each comparator company to produce a predicted distribution of relative share performance. This is applied to the reward criteria to give an expected value of the TSR element. Accounting expense does not necessarily represent the actual value of share-based payments made to recipients, which are determined by the remuneration committee according to established criteria. 12. Auditor’s remuneration Fees payable to the company’s auditors for the audit of the company’s accounts were $16 million (2007 $18 million and 2006 $15 million). Remuneration receivable by the company’s auditors for the supply of other services to the company is not presented in the parent company accounts as this information is provided in the group accounts. 206 BP Annual Report and Accounts 2008 Parent company financial statements of BP p.l.c. 13. Directors’ remuneration Remuneration of directors Total for all directors Emoluments Gains made on the exercise of share options Amounts awarded under incentive schemes 2008 2007 19 1 – 26 2 10 $ million 2006 14 12 14 Emoluments These amounts comprise fees paid to the non-executive chairman and the non-executive directors and, for executive directors, salary and benefits earned during the relevant financial year, plus bonuses awarded for the year. This includes an ex gratia superannuation payment of nil (2007 $3 million and 2006 nil) and compensation for loss of office of $1 million (2007 $1 million and 2006 nil). Pension contributions Four executive directors participated in a non-contributory pension scheme established for UK staff by a separate trust fund to which contributions are made by BP based on actuarial advice. One US executive director participated in the US BP Retirement Accumulation Plan during 2008. Office facilities for former chairmen and deputy chairmen It is customary for the company to make available to former chairmen and deputy chairmen, who were previously employed executives, the use of office and basic secretarial facilities following their retirement. The cost involved in doing so is not significant. Further information Full details of individual directors’ remuneration are given in the directors’ remuneration report on pages 77 to 87. s t n e m e t a t s l i a c n a n F i 207 MW Megawatt. NGLs Natural gas liquids. OPEC Organization of Petroleum Exporting Countries. Ordinary shares Ordinary fully paid shares in BP p.l.c. of 25c each. Pence or p One-hundredth of a pound sterling. Pound, sterling or £ The pound sterling. Preference shares Cumulative First Preference Shares and Cumulative Second Preference Shares in BP p.l.c. of £1 each. PSA Production-sharing agreement. SEC The United States Securities and Exchange Commission. Subsidiary An entity that is controlled by the BP group. Control is the power to govern the financial and operating policies of an entity so as to obtain the benefits from its activities. Tonne 2,204.6 pounds. UK United Kingdom of Great Britain and Northern Ireland. US United States of America. BP Annual Report and Accounts 2008 Miscellaneous terms In this document, unless the context otherwise requires, the following terms shall have the meaning set out below. ADR American depositary receipt. ADS American depositary share. AGM Annual general meeting. Amoco The former Amoco Corporation and its subsidiaries. Atlantic Richfield Atlantic Richfield Company and its subsidiaries. Associate An entity, including an unincorporated entity such as a partnership, over which the group has significant influence and that is neither a subsidiary nor a joint venture. Significant influence is the power to participate in the financial and operating policy decisions of an entity but is not control or joint control over those policies. Barrel 42 US gallons. b/d barrels per day. boe barrels of oil equivalent. BP, BP group or the group BP p.l.c. and its subsidiaries. Burmah Castrol Burmah Castrol PLC and its subsidiaries. Cent or c One-hundredth of the US dollar. The company BP p.l.c. Dollar or $ The US dollar. EU European Union. Gas Natural gas. Joint control Joint control is the contractually agreed sharing of control over an economic activity, and exists only when the strategic financial and operating decisions relating to the activity require the unanimous consent of the parties sharing control (the venturers). Joint venture A contractual arrangement whereby two or more parties undertake an economic activity that is subject to joint control. Jointly controlled asset A joint venture where the venturers jointly control, and often have a direct ownership interest in the assets of the venture. The assets are used to obtain benefits for the venturers. Each venturer may take a share of the output from the assets and each bears an agreed share of the expenses incurred. Jointly controlled entity A joint venture that involves the establishment of a corporation, partnership or other entity in which each venturer has an interest. A contractual arrangement between the venturers establishes joint control over the economic activity of the entity. Liquids Crude oil, condensate and natural gas liquids. LNG Liquefied natural gas. London Stock Exchange or LSE London Stock Exchange plc. LPG Liquefied petroleum gas. mb/d thousand barrels per day. mboe/d thousand barrels of oil equivalent per day. mmBtu million British thermal units. mmboe million barrels of oil equivalent. Hydrocarbons Crude oil and natural gas. mmcf million cubic feet. IFRS International Financial Reporting Standards. mmcf/d million cubic feet per day. MTBE Methyl tertiary butyl ether. 208 BP Annual Report and Accounts 2008 Information for shareholders Reports and publications You can order BP’s printed publications, free of charge, from: US and Canada BP Shareholder Services Toll-free +1 800 638 5672 Fax +1 630 821 3456 shareholderus@bp.com UK and Rest of World BP Distribution Services Tel +44 (0)870 241 3269 Fax +44 (0)870 240 5753 bpdistributionservices@bp.com BP’s reports and publications are available to view online or download from www.bp.com/annualreport. Annual Review Read a summary of our ﬁ nancial and operating performance in BP Annual Review 2008 in print or online. www.bp.com/annualreview Sustainability Review Read the summary BP Sustainability Review 2008 in print or read more online from April 2009. www.bp.com/sustainability Acknowledgements Design sasdesign.co.uk Typesetting Bowne, London Printing St Ives Westerham Press Ltd, UK ISO 14001, FSC-certiﬁ ed and CarbonNeutral® Photography Richard Price, Marc Morrison Paper This Annual Report and Accounts is printed on FSC-certiﬁ ed Revive 100 Uncoated (cover) and Revive 100 Offset (text pages). This paper has been independently certiﬁ ed according to the rules of the Forest Stewardship Council (FSC) and it was manufactured at a mill that holds ISO 14001 accreditation. The inks used are all vegetable oil based. © BP p.l.c. 2009 209 beyond petroleum®

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